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Does Your 401(k) Need to Be Protected?


When choosing among the mutual funds, target-date funds and other investments offered in a 401(k) plan, nobody sets out to select a costly investment that could affect their future. But, according to law professors Ian Ayres of Yale University and Quinn Curtis of the University of Virginia, that’s often exactly what can happen. Taking personalized care of your retirement accounts can help you avoid these scenarios though, along with educating yourself on the potential long-term harms.

Do you have questions about building a retirement plan for the future? Speak with a financial advisor today.

Where This Idea Came From

“Employees are often their own worst enemies,” Ayres and Curtis wrote in a recent column in The Wall Street Journal. “The problem — as we have learned by studying the portfolios of thousands of employees in a large institutional plan — is twofold. First, many employees put their portfolios at risk by failing to diversify their investments. And second, many choose investment options with relatively high fees that eat into their returns.” 

The problem, according to Ayres and Curtis, is that plan administrators hide expensive funds charging high fees in the workplace plans they design. On top of that, they assert that employers don’t do enough to educate employees about how to select their investments.  

Take the case of a narrowly constructed mutual fund, which invests in a small niche of the stock market or even just a single commodity and are designed to add diversity to a portfolio. The authors found that 22% of workers with portfolios that included a narrow fund put more than half of their money in that fund, which adds plenty of real risk. In one plan the authors studied, 35% of the participants had more than half their money in a gold fund, including 11% who put all of their money in the fund.  

The solution, Ayres and Curtis write, is to add rules that limit investments in narrow funds or eliminate them entirely if investors are putting too much money in them. But investors don’t have to wait for those guardrails to be put in place to take action.

Consistently Monitor Your Investments

Successful long-term investing often doesn’t entail a “set-it-and-forget-it” process. You’ll need to keep an eye on your 401(k) holdings over time, in terms of both asset allocation and investment costs to ensure they fit within your overall financial plans as they evolve.

Younger investors, for example, may want to put 100% of their money in stocks because they have decades to go until they retire, and can therefore afford to be riskier with the hopes of higher returns. Once those investors are 40, however, experts advise adding bonds to stabilize the returns as you get closer to retirement.

Rebalancing your investments at least once a year to maintain your intended allocation of stocks and bonds is also incredibly important. Rebalancing becomes necessary as investment prices rise and fall, the change in values can result in you being over-invested in one particular area and under-invested in another. Rebalancing restores your original allocation, reduces risk and can improve your returns.

Review and Update Your Asset Allocation

Make sure your asset allocation is coordinated with the allocations of your other investments. Avoid funds with high fees by getting that information from plan administrators, including fees charged by the funds. These can really eat into your returns over the long term. 

One option is to structure your investments along the lines of a model portfolio, which provides a breakdown of different types of funds for a diversified portfolio. For example, the classic 60/40 portfolio puts 60% of invested cash in an array of stocks and 40% in a selection of bonds. There are other similar options too, such as 70/30, 50/50 etc.

Bottom Line 

Long-term investors should understand how asset allocations, fees and other expenses can help or hurt the returns within their 401(k) accounts. Avoid concentrating too much money in one particular fund or type of fund, which can create too much risk in your portfolio of funds. Diversification is key to keeping your portfolio healthy over the long term, as well as helping to avoid the major ups and downs that can sometime befall the investment market.

Retirement Planning Tips

  • A financial advisor can help you build a comprehensive retirement plan that accounts for taxes, Social Security and more. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.

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