Give your 401(k) a periodic tuneup
By Sandra Block
USA Today
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Company 401(k) plans are like cars: If you don't give them a regular tuneup, performance will suffer.
Tuning up your 401(k) plan doesn't just mean redirecting your new contributions. It also means periodically rebalancing your whole portfolio, so the amount you have invested in stocks, bonds and cash won't stray from your initial allocation.
For example, suppose your strategy is to invest 60 percent in stocks and 40 percent in bonds. If the stock market fares well for several years, you could end up with 70 percent in stocks and 30 percent in bonds. That might be a riskier portfolio than you want.
Unfortunately, most of us just sit back and let the market determine the shape of our portfolios. In 2005, only 17 percent of 401(k) investors made any changes to their portfolios, says Hewitt Associates, a consulting firm.
Rebalancing isn't complicated. Still, it's "a painful thing for some investors to do," says Christopher Davis, an analyst with Morningstar. "It means selling your winners and putting money into the laggards."
Even those with the strength to bail out of their winners often won't see immediate results. You might endure a period of four or five years in which rebalancing has no impact on your investment returns, says Craig Brimhall of Ameriprise Financial.
But in volatile periods, rebalancing can make a big difference. Those who rebalanced their portfolios at the end of 1999, when the bull market was roaring, still lost money when the market collapsed. But investors who failed to rebalance and entered 2000 with outsized investments in growth stocks lost a lot more.
Some tips for rebalancing:
Company stock is risky. If your company fails, you could lose your paycheck and your retirement savings.
Stable-value funds, which invest in interest-bearing contracts, corporate bonds and Treasuries, aren't as risky as stock funds but bring lower long-term gains.
Rebalancing an undiversified portfolio is like getting an oil change when what your car really needs is a new transmission. Make sure your portfolio reflects your age, risk tolerance and long-term goals.
Because market trends don't change overnight, there's no harm in keeping your front-runners for a while. Most planners suggest rebalancing once your allocation falls more than 5 percentage points out of whack. That way, "you're giving yourself some leeway to let your winners run but not taking on too much risk," Davis says. Rebalancing your portfolio once a year should do the job, Davis says. A yearly check-up will also mean a chance to review your investments and make sure they're still in line with your goals.
About 36 percent of company 401(k) plans match employee contributions exclusively with shares of company stock, according to Hewitt. If you work for such a company, rebalancing your portfolio is vital. Otherwise, you could end up with a big investment in your company stock even if you never buy any shares.
In the past, it wasn't unusual for companies to restrict when employees could shift money out of company shares. The Enron collapse � which decimated many stock-heavy 401(k) accounts � led many companies to lift those curbs. Most planners recommend devoting no more than 10 percent of your portfolio to company stock. Once you exceed that limit, sell some shares and shift the money into other investment categories.
More than a quarter of 401(k) plans offer automatic rebalancing; an additional 20 percent intend to offer it to their employees, according to Hewitt.