Smart 401(k) Investing—Investing in Your 401(k)
You Have Choices
The variety of investments available in your 401(k) will depend on who your plan provider is and the choices your plan sponsor makes. Getting to know the different types of investments will help you create a portfolio that best suits your long-term needs.
Among the most important—and intimidating—decisions you must make when you participate in a 401(k) plan is how to invest the money you're contributing to your account. The investment portfolio you choose determines the rate at which your account has the potential to grow, and the income that you'll be able to withdraw after you retire.
|A 401(k) plan sponsor is the plan fiduciary, legally responsible for selecting the plan’s investment options and monitoring their suitability. Generally, your employer is your 401(k) plan sponsor.|
You’ll have at least three investment choices in your
401(k) plan, and you may have 100 or more. The average plan offers between 8 and 12 alternatives, sometimes only mutual funds and sometimes a combination of mutual funds, guaranteed investment contracts (GICs) or stable value funds, company stock and variable annuities. Some plans offer brokerage accounts, which means you can select investments from the full range of stocks, bonds, mutual funds and other types of assets rather than having to choose among the plan’s alternatives.
Every 401(k) plan lets you decide how to invest the contributions you make. Some plans also let you decide how to invest your employer’s matching contributions, but others let the employer make that choice. That includes the right to provide the match in company stock.
If you have a limited number of choices—say two stock mutual funds, a bond fund, a stable value fund and a money market fund—each is likely to put your money to work quite differently from the others. But while your investment decision may be easier, you may feel the menu is too restricted.
The more choices you have, the more difficult it may be to choose the ones best suited to your investment goals and risk tolerance. It’s your responsibility to find out how the choices differ from each other and what each of them could contribute to your portfolio. But the more choices you have, the more control you have over the level of investment return you can potentially realize.
When you’re automatically enrolled in a 401(k), your employer chooses a default investment for your contributions. The default investment will likely be a lifecycle fund, a balanced fund or a managed account,which the federal government has approved as acceptable choices. You have the option of sticking with the default investment, or moving your money into different investments offered by the plan.
Since your 401(k) plan could offer anywhere from 3 to 100 or more investment choices. Choosing the right combination of investments is essential to setting your 401(k) portfolio on the right track. But before you begin evaluating your choices, you’ll want to consider several factors:
Your time horizon. Generally, the further away you are from an investing goal, the more time you have to compound earnings if the value of your investments rises and to recover from losses if the value drops. The closer you are to retirement, the more of your portfolio you may want to shift into investments that are designed to preserve your capital and provide regular income.
Risk tolerance. Your risk tolerance will depend on a variety of factors that go beyond your own comfort level with taking risk or desire to achieve a particular return. You’ll want to consider your goals, the time horizon for each goal, other financial assets you own, current (and projected) income from your job, the stability of your job and any other sources of income. The more willing you are to take the risk that your portfolio value will rise and fall with the markets, the more you might consider investing in equities, such as stock mutual funds. The less willing you are to take that risk, the more you might want to emphasize investments that are designed to provide regular return.
Other retirement assets. If you have other assets, such as individual retirement accounts (IRAs), taxable investments, pensions or deferred annuities, you’ll want to consider the bigger picture before deciding how to invest your 401(k). If the bulk of those assets are allocated to more aggressive investments, for example, you might want to invest your 401(k) more conservatively to balance your risk.