2/6/2012 3:04 PM ET|
Make your 401k plan work harder
Most of us neglect our retirement plans, an approach that's bound to fail to help us achieve our retirement goals. Here's a strategy for starting to turn that around.
Chances are, you have a 401k plan at work. And the chances are, you're not making nearly enough of it. Now is as good a time as any to start turning that around.
If you're letting your 401k languish, a recent report shows that you're not alone. According to the Employee Benefits Research Institute, a think tank in Washington, most of us continue to neglect our 401k plan. The median account contains a balance of just $18,000, says the EBRI.
Good luck with that.
Here's a five-step plan to fix your 401k.
1. Take control
Take a look at the full range of investment choices available to you. That should include, at a minimum, a handful of low-cost domestic and international stock and bond funds. If your plan doesn't offer even those you should talk to the people in charge at your employer and insist that they move to a better plan.
Many people are too intimidated, or busy, to choose their portfolio. If you're in that camp, your plan will have dumped your money into a default portfolio -- such as a low-yielding but "stable" fund, or a target-date fund ostensibly designed for someone of your age.
There is nothing inherently wrong with these funds. But that doesn't mean you can rely on them, either.
These default options aren't designed for your best interests, but for the best interests of your plan provider. Instead of maximizing your likely returns, they are designed to minimize the provider's risk of a nasty lawsuit.
As a result, your money may well be sitting in a poorly designed portfolio that guarantees mediocre performance. Target-date funds, for example, are a great idea in theory. In practice, most are far too heavily weighted toward U.S. stocks, and they use a cookie-cutter approach to investing.
Consider the alternatives available to you.
You also should understand if your company makes matching contributions, and, if so, how much it will match. There's no good reason for missing out on a company match. It's also a good idea to find out if your plan allows such things as personal loans: This may offer you access to cheaper capital than you can get from a bank, although there are risks in borrowing from your plan.
2. Cut your costs
Many 401k plan providers stock their plans with high-fee mutual funds. That's great for them, and bad for you. Most mutual funds are far too mediocre to justify hefty fees, which just soak up a lot of your investment returns. A fund that charges you an extra 1% a year may end up costing you most of the tax benefits of your plan.
There are managed investment funds out there that are worth the money, but few of them -- if any -- are likely to find their way into a 401k plan.
If you're stuck with plain-vanilla funds, you are going to be better off going for the ones with the lowest costs. Nearly all the time your best options will be the low-cost index funds.
3. Lighten up on US stocks
Most people keep most of their stock-market investments in the United States. It's safer, right? I mean, it's the home market so it's less risky than foreign stocks, yes?
That's what conventional wisdom says, but it's hooey. Investors sell themselves short by investing too much in the U.S.A. You're already overinvested here anyway -- you have your life and career here.
And U.S. equities are looking relatively expensive. U.S. stocks today are somewhere between modestly and heavily overpriced when compared with such metrics as average earnings or the value of corporate assets, according to data from the Federal Reserve and data tracked by Yale University economics professor Robert Shiller.
The dividend yield on the Standard & Poor's 500 Index ($INX), recently at just 2.1%, is very low by historical standards.
Predicting future stock-market returns is notoriously difficult. But based on current valuations, the U.S. stock market seems to offer a mediocre bet.
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4. Look internationally
Many 401k plans go light on international investment options. The real reason is simply the incompetence and complacency of plan sponsors.
But if your plan offers international options, take advantage. The turmoil of 2011 has left many overseas stock markets looking like a good value.
Western European markets fell nearly 30% from last year's peak. Japan's Nikkei 225 index is now lower than it was during the tsunami panic nearly a year ago. Emerging markets from Brazil to India, the investment hotshots of 2010, have dropped dramatically out of fashion again. Their stock markets crashed last year.
These offer some excellent buying opportunities.
Emerging markets account for about a third of the world economy, and their share is growing. Developed overseas markets, meaning Europe, Japan and Australasia, account for about two-fifths. They are on sale, and most people are underinvested there.
5. Review your bond funds
As a general rule, your 401k and other tax shelters are where to hold the bond portion of your portfolio. That's because bonds are much more vulnerable to taxes than stocks.
Bonds generate most of their returns through coupons, and those are usually taxed at ordinary-income tax rates. By contrast, stock dividends and capital gains generally get taxed more lightly.
Right now is, admittedly, a risky time to invest in U.S. bonds. Yields on U.S. Treasurys have slumped to historic lows. Any pickup in the economy, and inflation, could send bond funds tumbling.
While Treasury bonds offer meager yields here, look at any corporate bond funds. That includes investment-grade bonds and more volatile high-yield bonds. Both offer somewhat better yields.
Emerging-markets bonds offer particularly good opportunities, says investment guru Rob Arnott, chairman of Research Affiliates. They pay higher interest rates than those in the United States, while their governments' finances are actually in better shape.
It's crazy that most 401k plans offer such a limited range of investment options. Paradoxically, you don't get full control of your money unless you leave your employer, when you can roll over the plan into a self-directed individual retirement account. But your 401k still represents a great investment asset, and this is a good time to get it into shape.
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Make your 401k plan work harder.
So finally we just put it all into a stable value fund. It might not grow and we might end up poor when we retire, but it's better than having nothing at all. We're not investors. Personally, I hate 401Ks. People should not have to become investors and comprehend the ins and outs of it in order to have a decent retirement. Bring back true pensions!
We only have 24,000 in our 401K after 18 years because everything we try - following the Prudential recommendations, letting a broker manage it for us, doing a ton of research and investing in a diversified (we hope) enough manner to protect ourselves and etc., - just results in losses.
You either haven't put enough in, or didn't research your investments. My company plan is also w/ Prudential, and I opted out of their Goal Maker program (all managed funds) and picked my own (mostly Index funds). My balance is at 133k after 11 years (at 33yr old). I've also put no less than 10% in and as much as 30% during the 08-09 crash. I try to increase every time I get a raise.
The guy knocking international funds must not know what it means to be a value investor. Europe and Japan will come back eventually, and those investments will pay off when they do.
Or . . . . . . . you can roll your 401k into a self-directed individual retirement account while you are still at your current employer. But don't tell anybody else. It's a secret.
Just show me an investment that guarantees my savings will retain its purchasing power, i.e., keeps me whole after inflation and taxes. If you can’t at least do that, you’ve got nothing special to show me. Even TIPS won’t do it unless you hold them in a Roth, because, you still have to pay taxes on the phantom income they produce (the inflationary component). It’s pretty sad commentary on the state of retirement investment options.
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