11/30/2016
A Common 401(k) Mistake to Avoid

A Common 401(k) Mistake to Avoid

If some of your 401(k) savings are invested in a target-date fund, you may be taking on more or less risk than you intend.

A recent study of 100 large retirement plans by Aon Hewitt, a human capital and management consulting firm, revealed that about half of the 1.5 million participants who use target-date funds also allocate their dollars across other investments in their plans. At Fidelity, a financial services corporation, 36% of 401(k) plan participants have money in both target-date funds and other investments.

The problem arises because target-date funds are built to move toward more conservative investment strategies as investors age, so those who spread the money across both target-date funds and other investment tools can bungle their exposure to fixed income and equities.

Many people fail to realize that target-date funds are designed to be all-in, and already contain a basket of different equity and bond funds. Target-date funds have become a staple of 401(k)s, with nine of 10 plans offering them in 2015 compared to just a third in 2005, according to an article on CNBC.

Here are some reasons to rethink your asset allocation, even if you’re in a target-date fund.

Performance Will Vary
In 2015, Aon’s research showed individuals who were not invested in target-date funds beat those who were fully invested in them. The S&P 500 finished up 1.4% that year, but negative returns in other market sectors dragged the funds’ performance down.

Over time, though, participants who were fully invested in target-date funds generally outperformed 401(k)s that didn’t use them. These funds do have their shortcomings, as many took a drubbing in 2008 when the stock market tumbled. The benefit is that they offer diversification and are designed by a professional.

Everyone is Different
The assumption of the target-date available at your workplace is that employees who are close in age will invest the same way. The concentration of stocks and bonds depend on your estimated retirement time horizon.

Your 401(k) allocation, however, doesn’t automatically reflect the larger picture of your personal finances. Individual goals like saving for children’s education or paying off a house play a role in the equation.

Make a Decision
As opposed to dividing your money across all the funds your plan offers, consider your preferred investing approach. Are you willing to be hands-on and research and monitor chosen funds, or do you prefer to be hands-off?

According to Aaron Pottichen, president of retirement services at CLS Partners, if you are unsure of how to invest, go with a target-date fund. If you do know, then opt for other investments. Keep an eye on fees in the form of expense ratio basis points.

Whichever route you chose, remember to check up on your account at least once per year to ensure your strategy is still working for you, and consult with a financial planner to align your 401(k) with the rest of your financial goals.
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