Millions of Americans use a 401(k) plan as their primary vehicle for retirement savings. The decisions investors make when managing these plans can make or break their golden years.
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In too many cases, workers are "just not engaged in the process," says Joshua Itzoe, a Towson, Md.-based partner and managing director of the institutional client group at Greenspring, a wealth management and retirement plan consulting firm.
"I joke that most people spend more time each year figuring out who they are going to start on their fantasy football team than how their 401(k) account is allocated," he says. "I wish this wasn't the case."
Itzoe and other investing experts believe the "managed 401(k) plan" -- a variation on the standard 401(k) -- often is a better way to save for retirement.
In the managed 401(k) approach, financial pros take over all the investment decisions and create a portfolio based on an investor's age and financial goals.
These programs offer guidance, such as suggesting when a worker needs to increase the amount of savings to reach retirement goals, but do not let the employee make actual investment choices.
If a managed 401(k) sounds ideal, temper your enthusiasm. This option is available only if your employer offers it. And very few do, according to Michael Kitces, partner and director of research at Pinnacle Advisory Group in Columbia, Md.
"Virtually none that we see are offering this," Kitces says. "I literally cannot recall the last time when we saw the employer that was offering a managed 401(k)."
A better mousetrap?
Still, Kitces believes the managed 401(k) approach is a good one and can result in better returns for investors.
As the stock market boomed in the 1990s, investors started to believe they could invest at least as shrewdly as professionals. However, numerous studies have shown the opposite to be true, Kitces says.
"The odds are overwhelmingly likely that employees will do a grossly inferior job" when compared to professionals, Kitces says.
Itzoe also is a proponent of the managed 401(k) approach. In his book "Fixing the 401(k)," Itzoe cited a 10-year research study that evaluated the performance of nearly 15,000 401(k) participants.
The study found that participants who followed something akin to a professionally managed approach -- such as turning over investing decisions to a professional, purchasing target-date mutual funds or closely following an asset-allocation model -- earned returns that were 1.9% higher per year on average than participants who relied on their own wisdom in choosing investments.
"Compound that over a working career, and it is a substantial amount of money," Itzoe says.
Despite the odds, many investors continue to go the do-it-yourself route. Such investors typically earn mediocre returns, largely because they fail to properly diversify, do not rebalance regularly, and often take on too much or too little risk, Itzoe says.
Roger Wohlner, a fee-only adviser with Asset Strategy Consultants in Arlington Heights, Ill., advises institutional and individual clients about 401(k) choices. He is a proponent of managed 401(k) plans.
"I think they are a good idea, and I think people want them," he says.
The standard 401(k) approach that asks workers to make their own investment decisions does not always work well, he says.
"We assume everyone is comfortable doing this, and they're not," he says. "I think a lot of participants are just uncomfortable allocating their money."
Left to their own devices, people often let fears drive investment decisions, which can lead to inadequate returns.
"Because people are scared, they put an inordinate amount of cash in money market funds and guaranteed products," he says.
Managed 401(k) plans take such emotion out of the investing process and allow for a more tailored, individualized approach than one-size-fits-all alternatives such as target-date funds, he says.
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