Managing Money

A Primer on the Thrift Savings Plan’s L Funds

The L Funds provide Thrift Savings Plan (TSP) participants with a simple “plug and play” option, which may be helpful for those who do not have the confidence or desire to pick among the TSP’s individual investment funds. While the L Funds are straightforward in concept, I’ve come across many TSP participants who aren’t fully aware of how they work or how they should and shouldn’t be used.

The objective of the L Funds is to provide TSP participants with a diversified portfolio by investing in an optimal mix of the TSP’s five individual funds. According to the TSP’s website, “They [L Funds] were designed to let you invest your entire portfolio in a single L Fund and get the best expected return for the amount of expected risk that is appropriate for you.”

While risk is subjective, “the amount of expected risk that is appropriate for you” is heavily centered on time horizon. According to TSP guidance, the target date of an L Fund should correspond closely with the first year a participant will begin withdrawals. The idea is that the greater the number of years before withdrawals begin, the more risk a participant is willing and able to accept.

For those who are already taking withdrawals, or those who will begin doing so very soon, the TSP suggests the L Income Fund, which is the most conservative of the 10 L Funds. The remaining nine L Funds range from a target date

ACCORDING TO TSP GUIDANCE, THE TARGET DATE OF AN L FUND SHOULD CORRESPOND CLOSELY WITH THE FIRST YEAR A PARTICIPANT WILL BEGIN WITHDRAWALS. THE IDEA IS THAT THE GREATER THE NUMBER OF YEARS BEFORE WITHDRAWALS BEGIN, THE MORE RISK A PARTICIPANT IS WILLING AND ABLE TO ACCEPT.

of 2025 to 2065 in five-year increments.

Given the relationship between time horizon and ability to accept risk, the L Funds are structured so that the more time until the target date, the more aggressive the L Fund will be. In other words, the further out the target date, the more the L Fund will allocate to the riskier C, S and I stock funds. (For more information on the TSP’s individual funds, see my column in the January 2021 issue of NARFE Magazine.)

For example, the L 2065 Fund (currently, the longest dated Lifecycle fund available) allocates 99 percent of its assets to the C, S and I funds, and only 1 percent to the G and F funds. The L 2025 Fund, on the other hand, allocates about 42 percent to the C, S, and I Funds, and about 58 percent to the G and F Funds.

To manage the risk of the L Funds over time, the TSP automatically adjusts the target allocation of the L Funds every quarter. These quarterly reallocations aim to slowly shift the L Funds from the higher risk and reward investments (C, S and I Funds) to the lower risk and reward investments (G and F Funds).

Bear in mind that while the objective of the L Funds is to provide a diversified portfolio with a turnkey approach to reducing expected risk as the target date approaches, the L Funds are not designed to prevent losses if or when the markets decline in value.

Once the L Fund reaches its target date, it’s merged into the

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L Income Fund. Unlike the other nine L Funds, the L Income Fund generally maintains the same target allocation over time; currently it allocates about 24 percent to the C, S and I Funds, and 76 percent to the G and F Funds.

When investing in the L Funds, it’s unnecessary to use multiple L Funds. Many TSP participants mistakenly believe they are improving diversification when doing so, but this is not true. Unlike the TSP’s five individual funds, which provide exposure to a specific asset class (e.g., large U.S. companies, small U.S. companies, international companies and bonds), each L Fund invests in all five of the individual funds (and only the five individual funds). By investing in multiple L Funds, participants are not gaining exposure to any additional investment funds or asset classes, they’re simply changing how much they have allocated to each individual fund (through the L Funds).

Visit www.tsp.gov to learn more about the L Funds, including how they are currently allocated among the five individual funds.

MARK A. KEEN, CFP®, IS PARTNER, KEEN & POCOCK, AND AN INVESTMENT ADVISER REPRESENTATIVE AND REGISTERED PRINCIPAL OF THE STRATEGIC FINANCIAL ALLIANCE INC. (SFA). SECURITIES AND ADVISORY SERVICES ARE OFFERED THROUGH SFA.

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