MONEY Ask the Expert

Here’s How to Protect Your 401(k) from the Next Big Market Drop

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Robert A. Di Ieso, Jr.

Q: Bull markets don’t last forever. How can I protect my 401(k) if there’s another big downturn soon?

A: After a five-year tear, the bull market is starting to look a bit tired, so it’s understandable that you may be be nervous about a possible downturn. But any changes in your 401(k) should be geared mainly to the years you have until retirement rather than potential stock market moves.

The current bull market may indeed be in its last phase and returns going forward are likely to be more modest. Still, occasional stomach-churning downturns are just the nature of the investing game, says Tim Golas, a partner at Spurstone Executive Wealth Solutions. “I don’t see anything like the 2008 crisis on the horizon, but it wouldn’t surprise me to see a lot more volatility in the markets,” says Golas.

That may feel uncomfortable. But don’t look at an increase in market risk as a key reason to cut back your exposure to stocks. “If you leave the market during tough times and get really conservative with long-term investments, you can miss a lot of gains,” says Golas.

A better way to determine the size of your stock allocation is to use your age, projected retirement date, as well as your risk tolerance as a guide. If you are in your 20s and 30s and have many years till retirement, the long-term growth potential of stocks will outweigh their risks, so your retirement assets should be concentrated in stocks, not bonds. If you have 30 or 40 years till retirement you can keep as much as 80% of your 401(k) in equities and 20% in bonds, financial advisers say.

If you’re uncomfortable with big market swings, you can do fine with a smaller allocation to stocks. But for most investors, it’s best to keep at least a 50% to 60% equities, since you’ll need that growth in your nest egg. As you get older and closer to retirement, it makes sense to trade some of that potential growth in stocks for stability. After all, you want to be sure that money is available when you need it. So over time you should reduce the percentage of your assets invested in stocks and boost the amount in bonds to help preserve your portfolio.

To determine how much you should have in stocks vs. bonds, financial planners recommend this standard rule of thumb: Subtract your age from 110. Using this measure, a 40-year old would keep 70% of their retirement funds in stocks. Of course, you can fine-tune the percentage to suit your strategy.

When you’re within five or 10 years of retirement, you should focus on reducing risk in your portfolio. An asset allocation of 50% stocks and 50% stocks should provide the stability you need while still providing enough growth to outpace inflation during your retirement years.

Once you have your strategy set, try to ignore daily market moves and stay on course. “You shouldn’t apply short-term thinking to long-term assets,” says Golas.

For more on retirement investing:

Money’s Ultimate Guide to Retirement

MONEY retirement planning

4 Simple Rules For Juicing Up Your Retirement Fund

Juicing a lemon
Tooga—Getty Images

These basic yet effective moves can help you get the investment gains you need without taking on outsize risk.

With financial pundits incessantly speculating about where stock prices are headed or blathering about a seemingly endless stream of “revolutionary” new investment products, you could easily get the impression you need to constantly revamp your retirement portfolio. But guess what? You don’t.

In fact, you’re more likely to hurt your retirement prospects by focusing on the ups and downs of the market and overdiversifying into fad investments. A better strategy: stick to a few simple but effective principles that can help you get the investment gains you need without incurring outsize risks.

Here are four tips that can help you add juice to your retirement portfolio’s performance and boost your odds of achieving retirement security.

1. Focus on building a portfolio, not picking funds. Many people think smart investing starts with selecting specific funds. But that approach is backwards. Before you start homing in on individual funds or any other type of investment, you need an overall plan.

Specifically, you want to put together a portfolio that not only includes stock and bond funds, but a broad range of both (growth and value stocks, large shares and small; government and corporate bonds). The aim is to create a diverse group of investments that don’t all move in synch with one another. This way, when one part of your portfolio is getting routed, another part can be racking up gains—or at least not get battered as badly.

The mix of stocks and bonds you own should be based on factors such as your age, your investing goals and your tolerance for risk. Generally, the younger you are, the more of your money you’ll want in stocks.

For guidance on creating such a portfolio, you can check out the investing tools in the Real Deal Retirement Toolbox. If you find the idea of building your own portfolio daunting, consider a target-date retirement fund, an all-in-one fund that includes a diversified mix of stocks and bonds and that becomes more conservative as you age. Though far from perfect, target funds are a good choice for people who can’t or don’t want to build a portfolio on their own.

2. Seek to track, not beat, the market. Aspiring for “average” results by investing in index funds or ETFs that track the performance of market benchmarks strikes some as an admission of failure. It shouldn’t. If you earn the average market return—or something close to it—you can grow your retirement stash substantially over time.

If ten years ago you had invested $10,000 in a total stock market index fund—a fund that tracks the entire U.S. stock market—you would have earned an annualized return of almost 9% and be sitting on a stash worth more than $23,000 today.

Sure, some funds did better. But most didn’t, and it’s hard if not impossible to identify in advance the ones likely to outperform. Indeed, S&P Dow Jones’s latest “Persistence Scorecard” shows that very few funds can consistently outperform their peers. Besides, what sometimes looks like superior performance is just a fund taking on a lot more risk, which makes it more vulnerable to market setbacks.

If you stick to broadly diversified stock and bond index funds, you can avoid the whole fund-picking racket, and fare much better than investors who are constantly seeking out hot funds.

3. Control your emotions. When the markets are surging, people tend to get overconfident about their investing abilities and underestimate the risk they’re taking. That’s one reason investors pour so much money into stocks after the market’s been on a run.

By contrast, in the wake of a market crash investors become overly cautious and often dump stocks and huddle in bonds and cash, even though stocks are usually more attractively priced after big downturns.

You’re much better off avoiding this emotional roller-coaster ride and maintaining your composure. Once you’ve created a portfolio of stocks and bonds that makes sense for you, you should largely avoid tinkering with it whatever the market is doing, except to rebalance back to your original asset mix periodically (say, once a year). By taking your emotions out of the game and adhering to the simple disciplined strategy of rebalancing back to your target stocks-bond mix, you’ll avoid the classic investor mistake of loading up on assets when they’re likely overpriced and selling after they’ve taken a beating and may be bargains.

4. Rein in costs. People tend to gravitate toward investments that have recently posted the highest returns. But returns are highly volatile. And a fund or stock that’s topping the performance charts one year may be an also-ran the next.

Expenses, on the other hand, are much more predictable. A fund that has much higher management fees than its peers will probably stay that way—its costs aren’t likely to go down. And since each dollar you pay in expenses lowers your net return, bloated fees act as a drag on a fund’s performance. Over the long-term that can seriously stunt the size of your retirement nest egg.

That’s why low-cost funds tend to outperform their high-fee counterparts over long periods of time. Which is another argument to stick mostly to index funds, which typically have some of the lowest expenses around. You can screen for low-cost funds by going to the Basic Screener in the Tools section of Morningstar.com. (The tool is free, but registration is required.)

There are no guarantees in investing. But if you follow the four tips above, you should be able to substantially boost the value of your nest egg without subjecting it to undue risk.

Walter Updegrave is the editor of RealDealRetirement.com. He previously wrote the Ask the Expert column for MONEY and CNNMoney. You can reach him at walter@realdealretirement.com.

More from RealDealRetirement.com:

Why Saving Trumps Investing When It Comes To Retirement

10 Tips To Supercharge Your Savings

Worried You’ll Outlive Your Nest Egg? Tilt the Odds in Your Favor

MONEY Ask the Expert

Help, My Spouse Is Afraid of Stocks. What Should I Do?

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Robert A. Di Ieso, Jr.

Q: I just got married, and my husband and I are both contributing to 401(k)s. But he is very conservative with his investments and keeps very little in stocks. We have more than three decades till retirement. How can we align our 401(k)s so we both feel comfortable?

A: It’s certainly not unusual for a couple to have different attitudes about how to manage their money. Spouses often aren’t on the same page when it comes to personal finances. But when you are investing for retirement, being too conservative can make it harder to reach your long-term goals.

“You need some of the risk that comes with investing in stocks, or you won’t have enough growth to fuel your portfolio for the long run,” says San Diego financial planner Marc Roland. And the younger you are, the more risk you can afford to take with your retirement money.

That’s because you have more time to ride out the anxiety-inducing downturns in the markets. Financial planners recommend using your age and subtracting it from 110 to get the percentage of your portfolio that you should keep in stocks. A 30-year-old, for example, should have roughly 80% of their holdings in equities.

So how do you mesh that guideline with an asset allocation that doesn’t panic your husband when the market drops?

First, understand that asset allocation isn’t the only important factor you should consider. How much you put away has more impact on your retirement savings success than how you invest your money. When you’re decades from retirement, it’s hard to know exactly how much you’ll need for a comfortable lifestyle at 65. But one rule of thumb is that you’ll need 70% of your pre-retirement salary to live comfortably. You can get a good ball park estimate with a calculator like this one from T. Rowe Price.

The more you are contributing to your 401(k)s, the less risk you have to take on, says Roland. If you’re both saving at least 10% of your income, and you boost that rate to 15% or more as you get older and earn more, a balanced portfolio of about 60% in stocks with the rest in bonds would work, says Roland. (That ratio of stocks to bonds is a bit conservative for investors in their 20s, who could reasonably stash as much as 80% in equities.)

To achieve that overall mix, the more aggressive spouse can invest 80% in stocks, while the risk-averse spouse can hold the line at 40%, assuming you are contributing similar amounts to your plans. “That blend will give them an appropriate asset allocation but each portfolio is tailored to each person’s risk tolerance,” says Roland.

Related links:

MONEY 401(k)s

Why This Popular Retirement Investment May Leave You Poorer

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slobo—Getty Images

Target-date funds are supposed to be simple all-in-one investments, but there's a lot more going on than meets the eye.

Considering my indecision about how to invest my retirement portfolio (see “Do I Really Need Foreign Stocks in My 401(k)?”) you would think there’s an easy solution staring me in the face: target-date funds, which shift their asset mix from riskier to more conservative investments on a fixed schedule based on a specific retirement date.

These funds often come with attractive, trademarked names like “SmartRetirement” and are marketed as “all-in-one” solutions. But while they certainly make intuitive sense, they are not remotely as simple as they sound.

First introduced about two decades ago, the growth of target-date funds was spurred by the Pension Protection Act of 2006, which blessed them as the default investment option for employees being automatically enrolled by defined contribution plans, such as 401(k)s. And indeed, investing in a target-date fund is certainly better than nothing. But the financial crisis of 2008 raised the first important question about target-date funds when some of them with a 2010 target turned out to be overexposed to equities and lost up to 40% of their value: Are these funds supposed to merely take you up to retirement, or do they take you through it for the next 20 to 30 years?

The answer greatly determines a fund’s “glide path,” or schedule for those allocation shifts. The funds that take you “to” retirement tend to be more conservative, while the “through” funds hold more in stocks well into retirement. Still, even target-date funds bearing the same date and following the same “to” or “through” strategy may have a very different asset allocations. For a solution that’s supposed to be easy, that’s an awful lot of fine print for the average investor to read, much less understand.

Then there is the question of timing for those shifts in asset allocation. Some target-date funds opt for a slow and gradual reduction of stocks (and increase in bonds), which can reduce risk but also reduce returns, since you receive less growth from equities. Others may sharply reduce the stock allocation just a few years before the target date—the longer run in equities gives investors a shot at better returns, but it’s also riskier. Which is right for you depends on how much risk you can tolerate and whether you’d be willing to postpone retirement based on market conditions, as many were forced to do after 2008.

In short, no one particular portfolio is going to meet everyone’s needs, so there’s a lot more to consider about target-date funds than first meets the eye. If I were to go for a target-date fund, I would probably pick one that doesn’t follow a set glide path but is instead “tactically managed” by a portfolio manager in the same manner as a traditional mutual fund. A recent Morningstar report found that “contrary to the academic and industry research that suggests it’s difficult to consistently execute tactical management well, target-date series with that flexibility have generally outperformed those not making market-timing calls.”

Maybe it’s the control freak in me, but I prefer selecting my own assortment of funds instead of using a target-date option where the choices are made for you. Granted, managing my own retirement portfolio was a lot simpler when I was young and had a seemingly limitless appetite for risk. But even as I get older and diversification becomes more important, I still want to be in the driver’s seat. Anyone can pick a target, but there is no one, single, easy way to get there.

Konigsberg is the author of The Truth About Grief, a contributor to the anthology Money Changes Everything, and a director at Arden Asset Management.

Related links:

 

MONEY Ask the Expert

How to Invest Your First 401(k)

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Robert A. Di Ieso, Jr.

Q: I just started my first job after college, and I want to sign up for my company’s 401(k). How should I invest it?

A: By saving in a 401(k) plan while you’re still in your 20s, you give yourself a huge advantage—you’ll actually need to save less money for retirement than someone who gets a later start, thanks to the power of compounding.

But figuring out how to invest that money can be daunting. According to a survey by Charles Schwab, half of people find explanations of their 401(k) investments more confusing than their health care benefits. Another 46% say they don’t know what their best investment choices are, while 34% say they feel a lot of stress about how to allocate their 401(k) dollars. The sheer number of fund choices can also be overwhelming: the typical 401(k) plan offers 19 investment options, according to the Plan Sponsor Council of America.

The good news is that when you’re starting out, you can keep it simple, says Jane Young, a fee-only financial planner at It’s Not Just Money in Colorado Springs. If your company offers a target-date fund (nearly 70% do), that can be a smart choice. With a target-date fund, you get an instant all-in-one asset mix that gradually shifts to become more conservative as you approach retirement. A 25-year-old worker who plans to retire at 65 might choose a 2055 target-date fund. It would keep the bulk of its assets in stocks, which provide growth but are more risky than bonds or cash. When you’re young, you can afford to keep more in stocks, since you have decades to recover from bear markets. (If you want to minimize risk, you could opt for a more conservative target-date fund—you don’t have to choose one with your retirement date.)

If your plan doesn’t offer a target-date option, build a portfolio yourself using core funds, such as an S&P 500 stock index fund and an intermediate-term bond fund, says Young. Look for the lowest-fee funds, which will allow more of your money go to work for you. (For more on selecting good, low-cost options, see how we choose our Money 50 list of recommended funds.) A reasonable mix for someone in their twenties: 20% of assets in a bond fund and 80% in stocks. In the equity portion of your portfolio, invest 50% in large company stocks, 25% in international stocks, and 25% in small and mid-size companies.

Ultimately how much you save for retirement is more important than how you invest it. So be sure to put away enough to get your employer’s full matching contribution. Keep increasing your savings rate until you are contributing 10% or more—some investing experts suggest that Millennials save at least 15% of income (including your company match) to ensure a secure retirement. And by diversifying and opting for low-cost funds, you will make the most of your 401(k) plan.

MONEY target date funds

Target-Date Funds Try Timing the Market

Managers of target-date retirement funds seek to boost returns with tactical moves. Will their bets blow up?

Mutual fund companies are trying to juice returns of target-date funds by giving their managers more leeway to make tactical bets on stock and bond markets, even though this could increase the volatility and risk of the widely held retirement funds.

It’s an important shift for the $651 billion sector known for its set-it-and-forget-it approach to investing. Target-date funds typically adjust their mix of holdings to become more conservative over time, according to fixed schedules known as “glide paths.”

The funds take their names from the year in which participating investors plan to retire, and they are often used as a default investment choice by employees who are automatically enrolled in their company 401(k) plans. Their assets have grown exponentially.

The funds’ goal is to reduce the risk investors take when they keep too much of their money in more volatile investments as they approach retirement, or when they follow their worst buy-high, sell-low instincts and trade too often in retirement accounts.

So a move by firms like BlackRock Inc., Fidelity Investments and others to let fund managers add their own judgment to pre-set glide paths is significant. The risk is that their bets could blow up and work against the long-term strategy—hurting workers who think their retirement accounts are locked into safe and automatic plans.

Fund sponsors say they aren’t putting core strategies in danger—many only allow a shift in the asset allocation of 5% in one direction or another—and say they actually can reduce risk by freeing managers to make obvious calls.

“Having a little leeway to adjust gives you more tools,” said Daniel Oldroyd, portfolio manager for JPMorgan Chase & Co’s SmartRetirement funds, which have had tactical management since they were introduced in 2006.

GROWING TACTICAL APPROACH

BlackRock last month introduced new target-date options, called Lifepath Dynamic, that allow managers to tinker with the glide path-led portfolios every six months based on market conditions.

Last summer, market leader Fidelity gave managers of its Pyramis Lifecycle strategies—used in the largest 401(k) plans—a similar ability to tweak the mix of assets they hold.

Now it is mulling making the same move in its more broadly held Fidelity target-fund series, said Bruce Herring, chief investment officer of Fidelity’s Global Asset Allocation division.

Legg Mason Inc says it will start selling target-date portfolios for 401(k) accounts within a few months whose allocations can be shifted by roughly a percentage point in a typical month.

EARLY BETS PAYING OFF

So far, some of the early tactical target-date plays have paid off. Those funds that gave their managers latitude on average beat 61% of their peers over five years, according to a recent study by Morningstar analyst Janet Yang. Over the same five years, funds that held their managers to strict glide paths underperformed.

But the newness of the funds means they have not been tested fully by a market downturn.

“So far it’s worked, but we don’t have a full market cycle,” Yang cautioned.

The idea of putting human judgment into target-date funds raises issues similar to the long-running debate over whether active fund managers can consistently outperform passive index products, said Brooks Herman, head of research at BrightScope, based in San Diego, which tracks retirement assets.

“It’s great if you get it right, it stings when you don’t. And, it’s really hard to get it right year after year after year,” he said.

MONEY 401(k)s

This Nobel Economist Nails What’s Really Wrong with Your 401(k)

Robert Merton, a Nobel laureate and finance professor at the Massachusetts Institute of Technology
MIT professor Robert Merton John Hanna—AP

Retirement plans are doing it all wrong, says Robert Merton. He ought to know. His hedge fund nearly brought the down the global economy.

In the 30-plus years since 401(k) plans were first introduced, they’ve faced criticism for everything from the risks employees face to the fees they pay to poor investing options. Now Robert Merton, a Nobel Prize-winning economist, says 401(k)s are headed for a crisis.

If anyone should know about a potential crisis, it’s Merton. Along with his fellow Nobel laureate Myron Scholes, Merton co-founded and sat on the board of Long-Term Capital Management, a hedge fund that was managed based on complex computer models. Under the leadership of co-founder John Meriwether, LTCM’s massive failure nearly brought down the global economy in 1998.

Now Merton is saying that 401(k)s are headed for trouble, but for very different reasons. In particular, he argued at a recent Pensions & Investments conference, 401(k)s take exactly the wrong approach to retirement investing by emphasizing account balances and investment returns, thereby encouraging savers to amass the largest portfolio possible, which pushes them to take too much risk. That’s an approach he calls “la-la land.”

Instead of focusing on wealth creation, 401(k)s should emphasize the level of income employees can expect to receive in retirement, Merton says. By knowing whether they are on track to that goal, workers will make better saving and investment choices.

One of the best ways to be assured of steady future income is to invest in an inflation-adjusted annuity, Merton says. But current 401(k) regulations do not allow deferred annuities as an investment option. Merton argued in a recent Harvard Business Review article that this barrier should be changed.

Meanwhile, workers are encouraged to invest in Treasury bills for safety, which they appear to deliver — if you look at year-by-year returns. But if you consider the income that T-bills would provide in retirement, as measured by the amount of deferred annuity income they would purchase, they are nearly as risky as the stock market. “The seeds of the coming pension crisis lie in the fact that investment decisions are being made with a misguided view of risk,” Merton writes.

Even so, he isn’t recommending that investors hold only deferred annuities to achieve their income goals. Instead, he suggests investing in a mix of stocks as well as bonds and deferred annuities. Over time, that asset allocation should shift based on the likelihood of achieving the investor’s income goal. At retirement, the worker would have enough money to buy an annuity that would provide the target salary replacement amount. But the choice would be left up to the employee. Still, Merton clearly has an opinion about what option is best, as a recent MarketWatch article noted. “When we take a risk, it’s generally for a good reason. You wouldn’t normally put yourself in harm’s way for no reason,” Merton writes.

Problem is, figuring out the right portfolio strategy, and when to make those shifts, is a tough challenge for the average investor. And not so coincidentally, Merton has a solution, which is to rely on professsional investment managers to handle this for you. An MIT professor, Merton is also the “resident scientist” at Dimensional Fund Advisors, which offers a 401(k) plan that focuses on producing a reliable income stream. (For more on DFA’s approach, see “The End of Investing.”)

The DFA connection aside, Merton’s insights are well worth considering. Along with Scholes, he won the Nobel in 1997 for a landmark options-pricing theory, called the Black-Scholes model, that is still widely used. (Economist Fisher Black passed away before the Nobel was awarded.) And in his call for 401(k) reforms, Merton has plenty of company. A growing number of academics and 401(k) providers advocate an income approach. So does the U.S. Labor Department, which intends to require plan providers to present investors with statements showing their projected income in retirement. Some investment groups already do.

Even if your 401(k) plan doesn’t offer income projections, you can get find calculators online that will give you estimates. Just remember, they are only projections, and if you don’t keep checking your assumptions, models can steer you astray. Just ask Robert Merton.

Update 7/1: The U.S. Treasury today approved the option of deferred annuities in retirement plans.

Related story: The New 401(k) Income Option That Kicks In When You’re Old

 

MONEY retirement planning

Your Biggest Financial Asset Is You. And That May Put Your Portfolio At Risk.

A lot could go wrong at once if you invest in the same industry that employs you. Work in real estate? Avoid REIT stocks.

You may think of your chosen career as something completely separate from your investing strategy. But according to David Blanchett, the head of retirement research at Morningstar Investment Management, your profession should play a bigger role in your investment decisions, and not just as a measure of future income. By ignoring the connection, you may be taking on more risk than you should—especially these days.

In economists’ terms, the value of an individual’s skills and talents is called “human capital,” a field pioneered by Gary Becker, a Nobel-prize winning professor at the University of Chicago who died last month. Becker’s models of human capital became the underpinning for the generally-accepted rule that young people should invest in stocks since they are still building human capital, while those in retirement who have “depleted” their human capital should have a more conservative asset allocation (although that theory is now being challenged by financial adviser Michael Kitces, among others.)

Blanchett believes that we need to go one step further and look more specifically at which industry workers are in to measure the inherent risk of an individual’s human capital. At the recent Morningstar Investment Conference in Chicago, he unveiled model portfolios for different professions (my nominal profession, journalism, wasn’t one of them, although “manufacturing” might work as a proxy—more on that later.)

How exactly do you measure the risk of human capital? Blanchett and his co-author Philip Straehl started with an equation for the variability of its return created by Roger Ibbotson. They then plugged in industry-specific wage growth rates, along with a bunch of other factors, such as the yield on the corporate bond index, for each industry to measure its relative health. (“We assume that the certainty with which the average worker within an industry gets paid a salary is the same as the certainty, priced into the bond market, with which the average company represented in the corporate bond index is able to meet its coupon and/or principal payments,” the authors explain.)

Blanchett and Strael then examined at the correlations between industry-specific human capital and the returns of 13 different asset classes. Some of the connections were intuitive—construction and real-estate had the highest correlation to REITs and high-yield bonds, while utilities had the lowest correlation to large and small growth stocks.

For investors, there are obvious implications: You should reduce your exposure to the asset classes with which your industry is already highly correlated, and increase your exposure to those with low correlation. “It’s sort of an extension of the rule that you should not hold a large amount of your own company’s stock in your portfolio,” explains Blanchett. “People tend to want to “buy what they know,” so someone who works in the tech industry buys tech stocks. I would recommend against this, with the exception of a small ‘play’ portfolio.” The same applies for health care, real estate, finance, etc., so it makes sense to prune your portfolio of specific stocks that are too closely tied to how you get your paycheck.

At a portfolio level, try to think of your profession as an asset class. In some examples Blanchett cited, if you’re a tenured professor, your job is more bond-like—low-risk but low-return—but if you work for a hedge fund, your job is more stock-like, so allocate accordingly.

When I later asked Blanchett what journalism was akin to, he responded, “Journalism would be an interesting case study. Our initial analysis is based on historical risk/correlations so I don’t think it would capture the risk of journalism today. I’m pretty sure both manufacturing and journalism are not likely to grow at the same rate as other occupations, so that’s a different risk that’s included in our model, and definitely complicates the issue.”

The fact that Blanchett and others are now looking at occupations to build portfolios points to a larger trend, which is that since 2008 human capital in general has gotten riskier across almost all professions. “In the past, a tenured professor was probably 100% bond-like, but today it might be more like 80% bond-like and 20% stock-like,” notes Blanchett. In today’s disruptive economy, stable jobs may not remain that way. Your human capital may need replenishing in the future, just like any other asset.

Ruth Davis Konigsberg, a fortysomething journalist and consultant to Arden Asset Management, writes weekly about retirement planning.

MONEY Ask the Expert

Should I Be More Hands On With My 401(k)?

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Robert A. Di Ieso, Jr.

Q: I am in my mid-30s and I am hands off with my 401(k). Should I be more active with the funds my 401(k) is plugged into? – William E. Collier

A: When it comes to 401(k) plans, inertia tends to rule—many people never revisit their initial investment choices after enrolling. It’s important to keep tabs on your plan and to make a few tweaks occasionally. But whether you should be a lot more active depends on how comfortable you are managing your own investments.

Most 401(k)s offer low-cost core stock and bond funds, including index options. If you are familiar with the basic rules of asset allocation, you can easily build a diversified, inexpensive portfolio on your own. But recent research makes a good case that getting some professional help with your portfolio can boost returns.

Pros may not outsmart the market, but they can often save your from your own worst instincts—taking too much or too little risk, or changing your investments too frequently. As a recent study by consultants AonHewitt and advice provider Financial Engines found, investors who followed their plan’s financial guidance earned median annual returns that were 3.3 percentage points higher than do-it-yourselfers, net of fees. The study analyzed the returns between 2006 and 2012 for 723,000 plan participants, including investors in target-date funds and managed accounts, those using the plan’s online tools, as well as do-it-yourselfers.

A three percentage point gap is substantial. A do-it-yourselfer who invested $10,000 at age 45 would have $32,800 by age 65; by contrast, the average 401(k) saver using professional advice would have $58,700 at age 65, or 79% more, the study found.

Another analysis by investment firm Vanguard found a smaller difference in returns for those who got help vs. those who didn’t. Target-date investors earned median annual returns of 15.3% vs. 14% for those managing on their own. The do-it-youselfers also had a wide range of outcomes, with the 25% earning median annual returns of less than 9%.

These days more plans are providing guidance in the form of online tools and target date funds: 72% of 401(k) plans offer target-date funds, up from 57% in 2006, according to the Investment Company Institute. The Plan Sponsor Council of America found that 41.4% offered some kind of investment advice in 2013, up from 35.2% the previous year.

Taking advantage of this help can be a smart move. But if you opt for a target-date fund, be sure that you use it correctly—as your only investment. Adding other funds will throw off what’s designed to be an ideal, all-in-one asset mix. Unfortunately, nearly two-thirds of target-date fund users put only some of their money in one, while spreading the rest among other investments. That move may lower your median annual returns by 2.62 percentage points, the study found, compared with investors who put all their money in a single target-date fund.

If you decide to go it alone, make sure to build your own ideal portfolio mix—try Bankrate’s asset allocation tool. To minimize risk, rebalance once a year to prevent any one allocation from getting too far out of whack. As you near retirement, remember to ratchet down the risk level in your portfolio by shifting to more conservative investments, such as bonds and cash.

Make these few moves, and you won’t get left behind by being hands on.

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