The L Fund and TSP Investments

The L Fund represents the latest evolution of the Thrift Savings Plan (TSP), but it’s not a completely new concept. It’s been around for over a decade, offering fresh strategies for investing in five traditional funds. These original funds include G, F, C, S, and I, which focus on various bonds and stock markets. Initially, the L Funds are heavily weighted towards stock investments and light on bonds. Over time, this allocation undergoes a transformation, becoming more conservative, with a significant shift toward bonds. This gradual adjustment is known as a glide path.

Currently, most L Funds are numbered by year, like the 2030 fund or the 2035 fund, which will continue until 2070. By the end of this month, we’ll see the introduction of the 2075 fund. When that happens, investments will shift into the L-Income Fund, which will include 24% stocks and 76% bonds—quite a conservative mix. This might seem prudent given that high bond allocations typically lead to lower volatility. However, it’s essential to remember that while volatility is a notable risk, it isn’t the only one. For long-term investors, issues like taxes and inflation can significantly erode purchasing power. Historically, stocks have offered favorable returns that outpace inflation and taxes, while bond funds often lag behind. In times of rising inflation, employees under the Federal Employee Retirement System (FERS) can see their pensions diminished, making it increasingly challenging to secure retirement.

Because of this, it’s advisable not to consider L Funds as a ‘set it and forget it’ investment. Monitoring your portfolio is crucial, especially if you’re 10 to 15 years away from the target year of your L Fund. It might be wise to explore other allocations between stocks and bonds rather than relying solely on the L Fund’s automatic adjustments.

Terry Garton then asked about new federal employees and their initial investment strategy. If they don’t make a choice, they’ll be automatically enrolled in TSP with a 5% contribution, which is matched by 5%. This setup is designed for those who plan to retire by age 65, based on the employee’s current age.

For those looking for more control over their TSP investments, Artstein explained that individuals can allocate funds among the five traditional funds and eleven L Funds. It’s essential to frequently check the TSP website to make necessary adjustments. The allocation of new contributions can differ from existing investments, giving some people the flexibility to change their risk profile as they approach retirement.

As conversations continued, Terry noted that while it’s easy to set money in L Funds and forget about it, one must remain aware of balancing risk and return as they age.

Artstein emphasized that inflation is a subtle threat; even if there’s nominal growth, purchasing power can still wane. For example, consider the cost of first-class stamps, which have gone from five cents to nearly sixty cents over the years. If investments don’t keep pace with inflation—especially when tax liabilities come into play upon withdrawal—purchasing power diminishes.

Terry highlighted the balance between inflation, investment returns, and taxes, suggesting that this interplay becomes increasingly complex. Their TSP investment should aim to support their desired lifestyle beyond retirement.

Artstein agreed, noting that since many new employees end up with a large portion of their funds in equities, it’s vital to reflect on the implications of how conservative these L Funds become over time. As people now retire at around 65 and could live for decades, managing investments without steadily losing purchasing power over such an extended period becomes crucial.

Terry wrapped up the discussion with a reminder that as one’s investment horizon expands, a stock-heavy portfolio is often recommended, transitioning to more stable, albeit lower-yielding, investments as they age.

Artstein clarified that while the starting point might be heavily weighted toward stocks, an appropriate balance is likely 50-60% in equities as they will need that support for expenses over the next few decades.