Finance & Investing

MONEY MATTERS
With Julie Stav

Retirement Planning Tune-Up
If your 401(k) is driving you crazy, perhaps you should leave the driving to somebody else

If the latest financial news of a possible recession, a mortgage crisis and a bear market knocking at our door is enough to scare your pants off, wait until you open your next 401(k) statement. Study it carefully, because you are bound to find many mistakes... not theirs, but yours.
Let me explain. As a 401(k) participant, you are offered a menu of investment choices by the company that administers the plan on behalf of your employer. Most employees, however, make their selections based on the advice of their well-intentioned co-workers rather than on sound logical principles according to their personal circumstances and tolerance for risk. The consequences are lower gains and greater volatility than you may be prepared to accept, especially as you approach your retirement age, a time when you should worry more about how much you can afford to lose rather than how much you can stand to gain.
In fact, due to disappointing results of 401(k) plans, the low level of knowledge and lack of help available to participants, Congress came to the rescue by passing the Pension Protection Act of 2006. This 900-page document requires employers to take a more active role in providing employees with information that will help them make the right decisions within their pension plans.
As a result, Target Date mutual funds—a type of automatic cruise control for your 401(k)—have become very popular, and they may offer you the opportunity to leave the “driving” of your pension investments to the professionals who manage the fund, instead of trying to time the market through its ups and downs by yourself. Here is how they work:
Target Date mutual funds are simple to use because you base your selection on your retirement date. Currently, these funds come in denominations of five and 10 years. For example, you may have a 2010, 2015, and 2020 fund, etc. You pick the year closest to your estimated retirement date and begin investing. That’s it. One decision and you’re done!
Once you choose the target date—let’s say you select 2040 because you are planning to retire in the year 2038—the fund manager distributes the money according to that target date, ranging from investments in stocks to more conservative fixed income holdings as you age. The younger you are, the higher the percentage of your account that will be invested in stocks; as you approach your retirement age, your account will gradually decrease its exposure to more volatile choices by perhaps including dividend-paying stocks or bonds to the mix. This strategy reduces the risk as you get closer to the time when you will need to begin using your retirement account to supplement your income, while it maximizing the gains you could receive by investing in more aggressive holdings when you are young and able to ride the market.
Ask the person in charge of Human Resources if you have Target Funds as an option within your 401(k) plan. You may wish to simply stop the deposits into your other categories, and begin putting money into the target fund that coincides with the date when you plan to begin using the money.
Before making a decision, read the prospectus carefully, making sure you understand the proportion of equities (stocks) to fixed-income securities (bonds). Not all Target Funds use the same formula. Go to www.morningstar.com and type the fund symbol in the box on the main page to find out how it compares to other funds in the same category.
Once you make a decision, leave the driving to that manager, who knows a lot more than “Joe in accounting” about the market.

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