A key feature of President George Bush's recently announced Social Security plan is that workers' personal retirement accounts (PRAs) would be invested automatically in a lifespan fund unless a worker expressly asked for another arrangement. Lifespan funds adjust (or "rebalance") a worker's investments as he or she ages. For younger workers who are far from retirement, a lifespan fund would invest most of their money in stock index funds-safe funds reflecting the broad stock market. As these workers grow older, their lifespan funds would gradually and automatically shift more money into even safer bonds and other less volatile investments. In short, lifespan funds allow younger workers to take advantage of the higher returns that stock investments offer while making sure that the portfolio gets safer and safer as the worker gets closer to retirement.

Lifespan funds are designed to allow the portfolios of workers who are far from retirement to grow with the economy and to allow older workers to lock in that growth by moving their portfolios into predominantly lower-volatility investments. This means that if the stock market suddenly declined, workers who invested in a lifespan fund and were near retirement would have only a tiny part of their PRAs invested in stocks and thus would not see a significant last-minute change in the value of their PRAs.

As an example of how these funds would protect workers who are close to retirement, Morningstar, Inc., an independent market data and analysis firm, estimated that the value of mutual funds invested in diversified U.S. stocks declined 12.1 percent during the second quarter of 2002-one of the worst quarters in recent history. However, not all types of investments went down. Indeed, mutual funds containing lower-risk instruments such as taxable bonds (a common investment for those nearing retirement) actually rose an average of 1.4 percent over that same period, and funds invested in tax-exempt bonds rose an average of 3.2 percent.

Because a lifespan account would have automatically moved a worker's PRA almost entirely into bonds when that worker reached retirement age, a worker with a PRA who retired in the first quarter of 2002 thus would have seen his PRA grow during that last quarter before retirement. He or she would not have faced losses, even though the stock market as a whole experienced major declines during that period.

Lifespan funds have been gaining popularity in employer-sponsored retirement plans, such as 401(k)s, because they automatically make the kind of portfolio adjustments that investment professionals recommend for all workers nearing retirement. For many years, investment advisers have advised workers to structure their retirement accounts so that more funds are shifted into fixed-income investments as they age. Advisors recognize that decreasing the proportion of investment in stocks reduces the potential for short-term loss. Although younger investors are better off investing most of their assets in stocks to get higher returns, those who are closer to retirement need to reduce the likelihood that a sudden market shift will affect them. Lifespan funds make this rebalancing process continuous and automatic and would let workers with PRAs approach retirement with confidence.

David C. John is Research Fellow in Social Security and Financial Institutions in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.