Despite being fairly new to the 401(k) plan menu, target-date funds continue to move the needle on saving for retirement, but some investors need to get a better grasp on how the funds work.

The Vanguard Center for Retirement Research reports that 71% of its target-date fund (TDF) investors who have their entire plan account in a TDF witnessed their account balances return to or exceed the level of two years ago. In addition, the median pure TDF investor’s account jumped more than 80% during 2007 to 2009.

The research examines participants’ balances between September 2007 and September 2009, a period in which the market peaked in October 2007 and declined in 2008 and early 2009.

“Pure target-date fund investors fared better throughout this period than many other investors for two primary reasons. First, most target-date investors have been contributing to their accounts for a limited period, so ongoing contributions benefited the smaller account balances more. Second, with the diversification inherent in their target fund portfolios, target-date investors do not have all of their savings invested in equities,” explains Jean Young, a senior analyst at the center.

Meanwhile, a study by the Employee Benefit Research Institute shows some TDF investors run the risk of setting up an “inferior portfolio” due to inadequate diversification.

Analysts at EBRI explain that TDFs function as “all-in-one portfolios that diversify asset allocation and rebalance over time based on a defined target-date horizon.” However, TDF investors who also own other 401(k) assets may be hurting their portfolios by having too much of their retirement funds pegged to certain sectors and asset classes. The study notes that some TDF investors “apparently fail to understand” that a TDF is designed as an “all-in-one” portfolio solution.

EBRI reports that at year-end 2008, nearly 7% of 401(k) assets were invested in TDFs with participants in their 20s allocating 15% of their 401(k) assets in TDFs, while participants in their 60s earmarked 6% of their 401(k) assets in the funds. The sample includes participants between ages 20 and 69 with an account balance of between $10,000 and $250,000 as of year-end 2008.