Pay Attention to Your 40l(k)
Course Section
By Elaine Bedel, CFP®
You should review the investments in your 401(k) or other retirement savings accounts at least twice a year. This advice is especially true if you are approaching retirement because nurturing these investments may mean the difference between retiring when you want or having to continue to work.
Check Your Contribution Amount
First, look at your pay stub to make sure that the amount you are contributing is on track to meet your retirement needs. If it is less than the $15,500 maximum contribution allowed in 2007, consider increasing your contribution per paycheck to pay in the full amount by year-end. If you are over age 50 in 2007, you can add an additional $5,000 to your plan as the "catch-up" amount. Checking the amount you are on track to contribute this year is important even if you are sure you contributed the maximum last year. This year the amount has increased $500 over the 2006 maximum.
When You'll Need the Money Determines What to Invest In
Second, review how you have allocated your investments by calculating the percent of your account that is invested in money market, stock, and bond mutual funds. Some plans also offer a real estate mutual fund or employer stock. Base your investment allocation on when you think you will need the funds for retirement spending and not necessarily when you retire. If your 401(k) is not your only investment, do this same calculation for both your retirement and non-retirement accounts.
Those who are younger and just beginning their career have a retirement horizon that is likely to be thirty or more years in the future. Investing a significant portion in the stock market can be appropriate. They have time on their side and can wait through the down cycle of the stock market without being required to sell stock investments at depressed values. Being an aggressive investor is appropriate the farther you are from retirement.
When you are within five years of needing to withdraw your money for retirement spending, you want to decrease the risk of the stock market and increase your dollars invested in the bond market where it is less likely to experience a severe loss in value. During this time period, it is more important to protect your nest egg than to invest to maximize the investment return.
Review your 401(k) statement carefully. A significant amount in the plan's money market fund may indicate that you never selected other available investment choices. Many plans will use the money market account as the "default" if you don't complete the necessary paperwork or use the on-line tools to make your investment selection. Since the money market return is similar to your bank savings account, you should reallocate the money market funds based on your retirement time horizon to get a better return.
Diversification Reduces Risk
Third, be sure you are diversified. This is particularly important with the stock mutual funds. You should have dollars invested in both the value and growth management styles for the large, mid, and small company mutual funds. A small allocation to international funds (10% to 15%) should be included in your mix. Since not all sectors of the stock market provide the same returns at the same time, it is important to have some exposure in all the areas.
"Target" Mutual Funds
Some employer retirement plans have started including "target" mutual funds - also called "life cycle" funds - as an investment selection. With these mutual funds, the title of the fund will indicate a target retirement date, such as 2010, 2025, 2040. These funds are designed to have the appropriate combination of investments for someone who plans to retire in that year. If these funds perform as designed, they reduce the decisions that you need to make by automatically changing the asset allocation as the specified retirement year approaches.
One caution: If you use a target date mutual fund, this should be the only fund that you use in your 401(k). If you combine this fund with other stock or bond funds, you will be changing the asset allocation and diversification within your overall 401(k) and defeating the purpose of using a target fund.
Nurturing your 401(k)
To get the most value from your retirement plan savings requires your careful review and nurturing. Go through the above exercise at least twice a year to assure you have a good balance and that your selections are performing well. If you don't have the interest or the time to thoroughly monitor your investments, consider getting a qualified financial planner or investment advisor who can give you guidance regarding your employer retirement plan as well as your overall financial health. The status of your 401(k) is too important to ignore.
Elaine Bedel, CFP®, is a personal financial planner with over 25 years of providing financial planning and investment management for executives, professionals, and entrepreneurs. She is the President and Owner of Bedel Financial Consulting and has served as Chair of both the Financial Planning Standards Board and Certified Financial Planner Board of Standards.
