How to Avoid the Biggest 401(k) Blunders
Do you have a 401(k) or will you soon have one? Check out this flashback Friday post about the biggest mistakes to avoid with your 401(k).
These days, a 401(k) is typically the cornerstone of every investor’s retirement plan. Gone are the days of big company pension plans and for many of us, big company matches to an employee’s retirement funds. Relying on Social Security benefits alone will be a problem since those benefits are meant to supplement your other retirement savings. Avoiding big mistakes that can cost you retirement money in the future is crucial to making the most of your 401(k). (Just so you know, when I talk about 401(k) plans, the same principles apply to non-profit retirement plans known as the 403[b]).
The best advice I can give is to find a certified financial planner (CFP) that you trust for insights and advice. Your work 401(k) plan should offer help from its own CFP so you may want to start there first. Another resource is Let's Make a Plan.org which is sponsored by the CFP Board.
I've had a private CFP since 2008 that I trust and working for a non-profit, I don’t have a huge portfolio. But his help has been invaluable by putting things in perspective for me when the stock market looks a little shaky or by devising investment strategies that I can embrace over the long term.
Mistake #1: Using investment strategies with premature target dates
We may forget that we are not only investing up to our retirement but also throughout our retirement. This means the closer that retirement gets, we often want to become more conservative across the board rather than phasing out higher risk stocks. Remember that many of us will live at least 20 more years after we retire so using your retirement date as the deadline to divest of your stock investments may harm your long-term strategy.
Without additional growth to your retirement funds, there may not be enough money to see you through the long haul. This is where a certified financial planner can help you decide the best strategy that may include ongoing investment in stocks if you can stomach the risk.
Mistake #2: Leaving 401(k) funds with a former employer
When you leave a job, you always have the option of rolling your 401(k) plan into an IRA. One reason you may want to do so is 401(k)s always have administrative costs and with some plans, these are overly expensive. Over time, these costs can add up reducing the overall return on your investments.
In addition, many 401(k) plans offer limited options in each asset category which also limits your ability to properly diversify. When your investment funds are more diversified, you can spread the risk while maximizing gains.
Mistake #3: Playing amateur stock broker
It is so important to remember that retirement investing is intended to be long term and there are only certain factors we can control. Those who have panicked and pulled their money out of a sagging stock market often lose big time, because contrary to what you may think, you cannot time the market.
Cashing out of the stock market when values plummet means you may lose potential gains when the market improves again. In addition, buying stocks when prices are high means you will pay more for less. The better approach is to buy low, sell high. This gives you the best of both worlds, and a certified financial planner can help you bridge the gap between the two.
Mistake #4: Failing to rebalance your portfolio
The closer you are to retirement, the more important it is to rebalance your portfolio every year or two. In the long run, stocks generally outperform bonds. But if you invest too heavily in stocks because the market is booming, and the market tanks just before you want to start withdrawing money, you might see your funds collapse.
Another reason to rebalance periodically is that big gains in stocks are typically re-invested right back in the same stock funds. A better approach may be to take some of those gains and move them into more conservative assets when retirement is near.
Summing it up
You too can avoid these common mistakes by being realistic about what you can control with your investments. Those items include asset allocation, fund diversification, and selecting funds with lower administrative costs.
If you’re closer to retirement and want to be more conservative with your money, your advisor can tell you how and whether or not this is a smart move. In the end, we all make our own decisions but sometimes we need a little help to make the best ones we can!
By Barbara Miller
For more helpful tips, check out "Four big reasons not to borrow from your retirement fund."