How to Invest Your 401k Savings

These days, we all have to be investment experts. If you want to retire in style and enjoy the same kind of golden years as earlier generations did, you have to take control of your own financial destiny. The amount of money you will have to live on depends on you – namely, your ability to make the right choices for investing your 401k savings and other retirement savings.

Unfortunately, you’re probably not getting much guidance from your plan sponsor for your 401k. You may just have a sheet of investment choices. How do you go about making sense of those 401k savings choices and decide what is best for you?

Manage Your Savings as a Single Portfolio

If you are like most people, you have your retirement savings spread across more than one account. To make the most out of your retirement savings, you need to make sure you have the appropriate asset allocation across your entire retirement portfolio, including your 401k savings. Include the assets that you have in other locations as you consider how to invest your 401k savings.

Organize the 401k Savings Investment Choices

A little organization can go a long way. Your fund sheet should at least provide categories for the different funds like “stock,” “bond,” “balanced,” and probably “target date.” The first thing you want to do is to separate out the target date funds from the rest, as deciding if target date funds are good for you is a separate decision (we’ll come back to this below).

Next, look for the word “index,” which is evidence of a passively-managed index fund. Index funds aim to replicate a market index like the S&P 500 or the Russell 1000 Value. Active funds, in contrast, try to outperform their benchmark indexes—but they come with higher fees. The fees for passive funds tend to be significantly lower than that for active funds.

You want to further separate the choices into “asset class buckets.” These include distinctions like growth versus value, large or small capitalization, international developed or emerging markets and so on.

401k Target Date Funds – Yes or No?

Now we come back to the target date fund question. First, let’s define what they are. Target date funds are a mixture of investments, such as stocks and bonds, that are allocated for you based on the amount of time that you have left before retirement. As you get older, the target-date fund will automatically shift your portfolio into less risky investments.

Because the target date fund’s asset allocation is being managed separately from the rest of your holdings, you should only consider target date funds if you do not have any other holdings. If you hold other investment assets, your portfolio will not have the optimal asset allocation.

If you do not have any other savings and are considering target date funds, you need to be aware of some additional shortcomings. Target date funds don’t know anything about your retirement goals, your risk profile and how much you are saving. Two people with entirely different risk profiles and financial situations will get exactly the same allocations just because they have a similar age. Plus target date funds don’t allocate assets in a tax-efficient manner. Because target date funds hold a large number of asset classes in a single account, it makes optimizing your portfolio for tax efficiency more difficult.

Investing Your 401k Savings

Now that you’ve organized your portfolio and your choices and made a decision – yea or nay – about target date funds, the next step is to figure out how you want to allocate your assets, and then pick a fund from each “asset class bucket.” Research has shown that the way you slice up your investments among asset classes is the most important determinant of successful long-term portfolio performance. So treat this decision seriously, and seek assistance from experts to help you get this right.

Jemstep’s Portfolio Manager can give you customized asset allocation advice based on your risk tolerance, goals and investing preferences. It can also analyze the options within your 401k plan, and offer you specific buy/sell recommendations based on what’s offered within your plans and make sure you stay on track with alerts when it’s time to make a change or rebalance.

Now that you are on the path to wisely investing your 401k choices, make sure you continue to manage your 401k as part of your overall portfolio, and enjoy retirement in style!

How are you investing your 401(k) savings? Are you getting the necessary help?