These are the keys to success investing 401(K) in a declining market

There really was no place for 401(k) investors to hide in the first half of this year. Though their wallets took a hit, they didn’t run for the hills.

The Nasdaq fell 30%, while the S&P 500 and Russell 2000 indices fell more than 20% each.

the bond market, generally regarded as a safe haven in volatile times, did better, but that’s not saying much. For example, the S&P US Aggregate Bond Index – a measure of investment grade debt – fell about 9%.

Despite these widespread losses, 401(k) investors held up, according to preliminary data from two major 401(k) providers.

At Vanguard, trading between defined contribution plan participants was muted, with only 4.3% making changes to how their funds were allocated. And the majority who chose to move money in stocks while prices fell.

At T. Rowe Price, most participants in the 401(k) plan have made no changes to their investments or deferred pay.

But if markets don’t improve in the second half of the year — and many analysts think stocks must fall even further before they can hit a bottom — even some rock-solid retirement investors could get cold feet.

If that happens to you, here’s how to calm your nerves:

You may be tempted to sell stocks and deposit the proceeds in cash or a money market fund. You tell yourself that you will put the money back into stocks when things improve. But that will just lock in your losses.

If you’re a long-term investor — including even people in their 60s and early 70s because they may have been retired for 20 years or more — don’t expect to outsmart the current downward trends.

When it comes to investing success, “It’s not about timing the market. It’s time to hit the market,” said Taylor Wilson, certified financial planner and… chairman of Greenstone Wealth Management in Forest City, Iowa.

Suppose you invested $10,000 in the S&P 500 in early 1981. According to Fidelity Management & Research, that money would have grown to nearly $1.1 million by March 31, 2021. If you had only missed the top five trading days in those 40 years, it would have only grown to about $676,000. And if you had the best 30 days, your $10,000 alone would have grown to $177,000.

If you can convince yourself not to sell at a loss, you may still be tempted to stop making your regular contributions for a while, thinking you’re just throwing good money after bad.

“This is difficult for many people because the reflexive response is to stop contributing until the market recovers,” said CFP Sefa Mawuli of Pavlov Financial Planning in Arlington, Virginia.

“But the key to 401(k) success is consistent and ongoing contributions. By continuing to contribute during down markets, investors can buy assets at lower prices, which can help your account recover faster after a market downturn.

If you can swing it financially, Wilson even recommends increasing your contributions if you haven’t maxed out yet. In addition to the value of buying more at a discount, he said, taking a positive action step can offset the fear that can arise from seeing your nest egg shrink (temporarily).

Life happens. Change plans. And that also applies to your time horizon until your retirement. So check whether your current allocation to stocks and bonds matches your risk tolerance and your ideal retirement date.

Do this even if you’re in a target date fund, Wilson said. Target date funds target people who will retire around a certain year, for example 2035 or 2040. The allocation of the fund will become more conservative as that target date approaches. But if you’re someone who started saving late and may need to take more risk to meet your retirement goals, he noted that your current target-date fund may not offer you that.

Mark Struthers, a CFP at Sona Wealth Advisors in Minneapolis, works with 401(k) participants at organizations who hire his firm to provide financial wellness advice.

So he’s heard of people across the spectrum expressing concern that they “can’t lose” what they have. Even many educated investors wanted to get out early in the pandemic during the recession, he said.

While Struthers will advise them not to panic and explain that downturns are the price investors pay for the high returns they get during bull markets, he knows that fear can get the better of people. “You can’t just say ‘don’t sell’, because then you lose some people and they are worse off.”

So instead, he’ll try to get them to do those things that can allay their worries in the short term, but do the least amount of damage to their nest egg in the long run.

For example, a person may be afraid to take enough risk in their 401(k) investments, especially in a declining market, because they fear losing more and having fewer financial resources if they are ever fired.

So he reminds them of their existing assets on rainy days, such as their emergency fund and disability insurance. He may then suggest that they continue to take enough risk to generate the growth they need in their 401(k) for retirement, but divert some of their new contributions into cash or low-risk investment. Or he may suggest that they divert the money into a Roth IRA because those contributions can be obtained without tax or penalty if necessary. But it also keeps the money in a retirement account in case the person doesn’t need it for emergencies.

“Just knowing they have that consolation money out there helps them panic,” Struthers said.

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