Counting on 401(k)? It may not be enough!

Market hurting returns on U.S. retirement plans
Sandra Block
USA Today

Millions of Americans are counting on their 401(k) plans and their home equity to provide for their retirements. For years, stock investors have been led to expect average annual returns of 8 to 10 percent. Similarly, many people have assumed that their homes would appreciate by roughly 10 percent a year.  Both assumptions, though, rest on two decades of out sized returns that were inflated by low interest rates that fueled bubbles in the values of stocks and real estate. Now, many financial analysts are predicting a prolonged period of below-average returns on both stocks and home equity.

If they're right, Americans need to face a sobering fact: They're not likely to have as much money for retirement as they had projected. Some economists believe the economy is headed for a period that will more closely resemble the bearish 1970s than the vibrant 1980s and '90s. And for investors, the '70s were quite bleak.  During the 1972-73 bear market, the Dow fell 45.1 percent over 482 trading days. From 1966 through 1982, not counting dividends, the Dow's performance was essentially flat.

Already, the economic slowdown is causing Americans to rethink their retirement plans. More than one-quarter of workers ages 45-64 say they've postponed plans for retirement because of the sputtering economy, according to a new survey by the AARP.  Of course, pessimists have been wrong in the past. But if they're right, it will be more important than ever to save as much as you can for retirement. It also means there is not much room for error. That's why it's essential to monitor your retirement accounts. When was the last time you reviewed your 401(k) plan? Can't remember? Join the crowd.

"When markets go up, people log onto their account once a day, put their statements on their fridge and feel like geniuses," says Sri Reddy, head of retirement-income strategies at ING US Wealth Management. "When markets are going down, people don't even open the envelope."
Ignoring bad news doesn't make it go away. Log on to your 401(k) account or open your most recent statement. You might need to fine-tune it, especially if the stock market's performance in coming years falls short of your expectations. One-third of workers with 401(k) plans fail to invest enough to earn the company match, according to an analysis of nearly 1 million plans by Financial Engines, an investment firm that provides advice to plan participants.

During these uncertain times, you can't afford to leave money on the table. If your company matches your own contributions dollar for dollar, you're receiving the equivalent of a 100 percent return on your investment, says Jeff Maggioncalda, chief executive for Financial Engines.

"Even if it's 50 cents on the dollar," he says, "it's a guaranteed 50 percent return on your money. In a world of lower expected returns, why would you walk away from a guaranteed 50 percent or 100 percent return?"

Even more troubling, nearly two-thirds of workers who earn less than $25,000 a year don't contribute enough to earn the full company match, according to the survey. Unlike wealthy savers, who are more likely to have other assets and a pension, these lower-paid workers "are the folks typically who are going to be relying on their 401(k) the most" when they retire, Maggioncalda says. "It's especially important for the folks at the lower income levels to be taking advantage of this free money."

Most financial advisers recommend investing no more than 10 percent of your 401(k) savings in a single company's stock - and that includes your employer's stock. But among 401(k) participants who have the option of investing in their employer's shares, more than a third have more than 20 percent of their portfolios invested in company stock, according to the Financial Engines survey.  Even more troubling, a quarter of participants over 60 have 50 percent or more of their portfolios invested in company stock. Many workers assume their company stock is a good investment choice because it has performed well in the past, Maggioncalda says. But that doesn't mean it will continue to do well in the future. Just ask the thousands of former Enron workers whose stock-heavy 401(k) plans were wiped out when the company collapsed.

Even if your company isn't on the verge of bankruptcy, owning a lot of company stock is risky, particularly during periods of sluggish or declining stock-market returns. Your stock "could drop much more quickly than the overall stock market," Maggioncalda notes. And if you're close to retirement, you may not have time to recover.  If your mutual funds are earning 20 percent a year, it's easy to overlook expenses and fees. But during periods of below-average returns, expenses can make a huge difference. If you're earning 3 percent or 4 percent a year, a 1 percent expense ratio, for example, will eat up a quarter of your return.

And some mutual-fund companies charge much more than that. Here's a good general rule, Maggioncalda says: The expense ratio for a stock fund shouldn't exceed 1 percent. For bond funds, which typically deliver lower returns than stock funds, the expense ratio shouldn't top 0.75 percent.  Figuring out how much you're paying in fees for your 401(k) plan isn't easy, but you can usually find the expense ratio for your funds in the summary prospectus provided by your plan. If the ratio is higher than average, switch to different funds, or urge your employer to offer less-costly options.

Nearly 40 percent of workers have 401(k) portfolios that are either inefficient or inappropriate for their age, according to Financial Engines. Problems range from young workers with overly conservative portfolios to older workers who are investing too aggressively, the survey found.

One way to avoid this problem is to invest in target-date funds, also known as life-cycle funds. These funds invest in a mix of stocks, bonds and money funds, based on when you plan to retire. The funds' investment mix becomes more conservative as you move closer to your target retirement date. They've become popular with savers who don't want to worry about creating their own portfolios and re-balancing their investments.

Alternatively, you could invest your savings in a balanced fund, which typically puts about 60 percent of your money in stocks and 40 percent in bonds.  "In general, you can't go wrong if you're in the middle of the pack," says Christine Fahlund, senior financial planner for T. Rowe Price. "If you have a balanced portfolio at any time in your life, it may not be ideal, but it's a lot better than being at one extreme or the other."

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