Did Your 401(k) Lose Money in 2001?
Edition: May 2002 - Vol 10 Number 05
Author: Richard Yercheck
The year 2000 was the first year the total assets in the nation's 401(k) plans fell-and assets fell again in 2001.
If you had a 401(k) plan with substantial assets throughout 2000 and 2001, you probably lost money in iteven as you continued to make contributions. That hurts, and it's only natural to feel nervous about what's next.
But there's another way to look at a declining market. Warren Buffett, one of the world's most successful investors, gives this advice in his 1996 Owner's Manual for shareholders in his holding company, Berkshire Hathaway:
If we have good long-term expectations, short-term price changes are meaningless for us except to the extent they offer us an opportunity to increase our ownership at an attractive price.
When investmentseven those that look fundamentally sound for the long termdecline in price, the natural reaction is to get scared. And some investors did withdraw assets, or reduce their contributions, in 2001. But a better reaction may be to
look closely at your 401(k) investment choices,
diversify your assets in a way that suits your long-term goals, and
contribute as much as you can.
Here's how to go about it.
Know Your Choices
Each of the funds available in your 401(k) plan has a prospectus. The prospectus is often a rather forbidding-looking document. But the information it contains-the fund's investment objective, how it pursues that objective, fees and expenses, and how it has performed-is well worth an hour of your time. Your financial advisor can help you understand each fund's prospectus and explore all the options available to you.
Diversify in a Way That Suits Your Goals
Some people put much of their 401(k) contributions in a conservative bond fund or even a money-market fund, because they do not want to speculate with their retirement money. However, studies have shown that stocks, as measured by the S&P 500, have outperformed other classes of investments over the long term. This is especially important to consider since most 401(k) contributions are made for the long term and not just for a few years. However, past performance does not indicate future results. There are no guarantees when it comes to investing. In addition, your situation may dictate that you take a more conservative approach than investing your 401(k) in equity investments. Each investor is unique, and your 401(k) investing should reflect what is right for you.
Contribute as Much as You Can
If you're carrying credit-card debt, that debt is very expensive, and paying it off is one of the most powerful things you can do. Your credit card should be a convenience-not a source of debt.
But once that's out of the way, you need to take advantage of your 401(k)-especially since Uncle Sam, and probably your employer, will pay you to do so. Contributions are tax-deferred until they're withdrawn, and your employer may match the first few percent of your pay that you contribute.
By putting in the same number of dollars with each paycheck, you're dollar-cost averaging as you buy your investments. When share prices are low, you're buying more shares; when they're high, you're buying fewer. As a result, the average cost of your shares will be lower than it would be had you bought an equal number of shares at each interval. When something good is cheap, you should want to buy more. Dollar-cost averaging helps you do that.
You can make this effect even more powerful by rebalancing. At the end of each quarter, some investments may have outperformed others. Check your statement and instruct the plan sponsor to bring your assets back to the original split. In effect, you'll be selling some of what has performed best and buying some of what has lagged. Dollar-cost averaging and rebalancing help you take advantage of lower prices.
Get Professional Advice
A professional financial advisor can help you develop an investment plan, allocate your assets, diversify in a way that makes sense for your financial situation and goals-and, most importantly, stick to your plan. When emotions run high, your financial advisor may be able to help you see what's really happening-and potentially take advantage of it.
Dollar-cost averaging does not assure a profit and does not protect against loss in declining markets. Since it involves continuous investment in securities, regardless of fluctuating prices, you should carefully consider your ability to continue your purchases during periods of low prices.
ABOUT THE AUTHOR:
Richard Yercheck is a Financial Consultant with IJL Wachovia in Charlotte NC. For more information, please call Richard at 800-929-0724. IJL Wachovia is a division of Wachovia Securities, Inc., Member NYSE and SIPC and a separate non-bank affiliate of Wachovia Corporation.