Posted on 05/17/2002 2:40:47 PM PDT by cd jones
Why We Make So Many Mistakes With Our 401(k) Plans
Face it: The errors aren't always the company's fault.
By Gary Belsky, June 2002 Issue
In a funny way, Enron might be remembered for doing some good. It could, for example, turn out to be a blessing that the company's spectacular collapse has helped focus attention on 401(k) plans. Twenty-four years after an obscure section of the federal tax code was used to create an auxiliary savings vehicle for some U.S. workers, the 401(k) plan and its government and nonprofit cousins have become the primary retirement plan for most American workers, holding more than $1.6 trillion of those workers' savings. That's more than a threefold increase in 10 years. But all is not well with how participants in those plans are handling the responsibility. Specifically:
Many employees take too much risk
Forget Enron -- this problem can just as easily be labeled the Texas Instruments (TXN) problem or the Procter & Gamble (PG) problem, to pick two examples. Workers at those companies have 69 percent and 84 percent of their 401(k) assets, respectively, invested in their employers' stocks. That has been OK lately, since shares of both Texas Instruments and Procter & Gamble have been beating the market. But the tale is less tantalizing for employees of, say, Coca-Cola Enterprises (CCE), who collectively have 32 percent of their 401(k) assets invested in the bottler's stock, which has lost about half of its value during the past three years. On average, nearly one out of every five 401(k)-plan dollars is invested in company stock, according to the Employee Benefits Research Institute in Washington, D.C. And that's just too much.
Companies have a tax incentive to make matching contributions in their own stock. But workers often hold those shares because of misguided ideas about investing in a company they know. Behavioral economists -- who study such financial decisions -- call this the "endowment effect": When we have an emotional or financial investment in something, we tend to overvalue it. And in the case of company stock, employees ignore the need to spread their risk over multiple investments. "Participants assume they know enough about their company to get out when they need to," says benefits consultant David Veeneman. "Enron showed that's not the case." That's why financial pros recommend that you keep no more than 10 percent of your retirement assets in your company's shares.
Others are too conservative
Another reason that employees hold on to company stock is what psychologists call the "status quo bias." All things being equal, most people prefer to stay the course. For many workers, unfortunately, that means staying in the default investments they are put into when they first join a retirement plan, generally a money-market fund or some other conservative option. (According to a recent study, 80 percent of new plan enrollees stick with their default investments from the outset, and 50 percent are still sticking with them three years later.) That's unfortunate, because the investment returns of money-market funds likely won't cut it in the long run. "Equities are still the best way to build wealth in retirement plans," says Chicago financial planner Ellen S. Rogin. A good rule of thumb: The percentage of the retirement-savings assets in stocks should be equal to the difference between an investor's age and 100.
Almost no one is saving enough
Some 45 million Americans participate in 401(k) plans today -- about 80 percent of eligible workers. But that's still only about a third of the 134 million-strong workforce, and the average 401(k) participant -- age 42 -- contributes just 6.5 percent of his or her salary to the plan, far below the typical maximum allowed (15 percent in 2002, up to $11,000). To be fair, corporate America is helping: 14 percent of employers automatically enroll new employees in 401(k)s, but most enrollees begin at a default contribution rate of 2 to 3 percent -- and stay there. "Inertia keeps people saving once they're automatically enrolled, which is good," explains University of Chicago behavioral economist Richard Thaler, who has devised a method to increase 401(k) savings. "But it also keeps them saving at low rates." And that, of course, is bad.
That's like investing in a particular stock based on the performance during the last 2 minuites of the trading day.
In a word, foolish.
Financial Darwin Candidate.
but remember, a gold fund is STILL just paper.
I'm 37. I don't have too much saved yet but I'll currently putting about 10,000 into my 401K annually plus matching. I've got a basic 401K with basic options ranging from very conservative to very aggressive...The standard options...S&P 500, International Stock, American Growth Funds, etc...(I won't pretend to know what all these mean past "Aggresive, Moderate and Conservative").
So, where should my money be (I'm pretty much 100% Aggressive now)? I'll be in the market for another 20-25 years and hopefully contributing this much until at least I have have to pay for college or something (20 years away).
Thanks in advance for any basic or detailed information past what I can read in my 401K booklet...In other words, don't be afraid to give specific information...I won't hold it against you! ;)
People make so many mistakes in thier 401(k)s because they are people and if you get a large group of people together most will be morons.
Employees that invested thier entire 401s in Wall-MArt for twenty years are now multi millionaires. IS that strategy risky? Of course it is! Yet risk equals high gains, it also equals financial destruction.
I do not like people to lose thier retirement portfolios but I like it even less when the government tries to dictate how much I should put into an equity. I know the article did not say this but Senator Kennedy and Senator Feinstein did, and even tried to introduce legislation to mandate employees portfolios.
In other words, when things are great, everyone makes money and all is well. When things tank, it is not the fault of the poor little guy.
To address another poster, gold funds do well when things suck. People feel confident in gold funds when things are bad so large numbers put thier money in gold funds. Royal Gold Inc. is a good stock to buy. It is not a fund but it brokers trades in gold and it does well when gold does well. The trading symbol is RGLD.
Johhny Shear, if you are aggressive, I would recommend investing in the Third Millenium Russia fund. I am heavily investing in Russia right now and believe it or not, the Russian Economy will blow up in the next few years. The symbol for this one is TMRFX. Feel free to check it out. I read analysts but do not follow them blindly but this is rated five stars by MOrningstar.
Do not invest all of your assets into this fund but do invest as much as you can while keeping a safety margin. Its up 43% this year. I am happy with it! :D
I would give you specific equities to invest in but for a retirement plan it is a good idea to keep it as safe as possible and use funds.
The time for Bonds and Bond funds was late 1999-2000. They are still making money but if I owned them, I would watch them carefully as thier time is almost up.
If you all do not know about the reforms in the Russian economy, then you have not been paying attention... I would suggest reading Capitalism Magazine. BTW, they called Enron a stinker for quite some time and anyone that followed the Enron debacle would realize how easily avoided it could have been if you were a shareholder.
As a basic rule of thumb, if a company can not tell the public HOW it makes its money, you should watch it VERY carefully.
I will even suggest a book for beginning investors to read. It is somewhat old but the info is still pertinent. The book is "One up on Wall Street," by Peter Lynch. God, I love that guy!
Good luck and remember that a "recession" is just a time to find good buys! :D
He is a brilliant man who sold out of the Korean Currency speculation market when it was about to tank and then repeated his formula when it was on the rise.
I have read most of his books but people should be wary of people that practice pure capitalism for themselves and preach socialism to the masses.
I loved his spiel about how great the estate tax is while HIS estate is EXEMPT from taxation. He speakith with a forked tongue. :D
It is important also to remember very few great stocks stay great through several bull market cycles, as much as the CEO's of their companies would like you to believe, so what counts in your company stock plan is what is ACTUALLY happening to the stock performance.If the market says your stock is a dog, well, the market is right :-)Your money is too important to fritter away on sentimentality, and the investment world is a hard taskmaster for those that forget such simple truths.It is better to be in cash doing nothing than to invest in dogs.
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