Restore Your Dream
A reviving stock market and customized advice are elixirs for your retirement plan.
By Mary Beth Franklin, Senior Editor
From Kiplinger's Personal Finance magazine, March 2004
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Retirement investors can breathe a collective sigh of relief. After three dismal years, 2003 reminded us why all roads to a secure retirement run through the stock market. Bask in the good news: The Standard & Poor's 500-stock index jumped a stunning 29%. The Nasdaq composite index reversed its nasty ways and soared 50%.
For those who rode out the storm that ushered in the new century (thanks, more than likely, to a diversified portfolio), such returns begin to make up for the brutal damage the bear market inflicted on retirement accounts and retirement dreams. Those who fled to the "safety" of money-market funds or suspended their 401(k) contributions are kicking themselves for missing the run-up.
Wherever you stand, this is no time to look backward. Instead, look ahead with renewed confidence fueled by the markets' heartening behavior and the fact that hard-learned lessons of the bear market will serve us well in the future. One clear lesson -- that investors need more help -- will not be easily forgotten. Already, the government is offering bigger tax breaks, and companies are offering more advice on how to make the most of 401(k)s. We're here to help, too, with tips on how to revive your retirement-savings plan, including an initiative to put Kiplinger's readers across the country in touch with financial experts to answer your personal questions (see the story on National Jump-Start Your Retirement Plan Days). By saving more, investing smarter and, in some cases, working a little longer than you might have hoped in the booming '90s, you can still fund the comfortable and secure retirement of your dreams.
Goal setters
Tom Hopkins, a high school teacher in Jacksonville, Fla., may be 20 years away from retirement, but he has a pretty clear idea of how much money he and his wife, Robin, can count on when they stop working. Although they earn less than $80,000 a year between the two of them, the Hopkinses, both 42, manage to save about $900 a month (including a matching contribution from Tom's employer), or 11% of their income, toward retirement in Tom's 403(b) plan (the type of retirement plan used by most teachers) and twin Roth IRAs. They have about 90% of their retirement money invested in stock mutual funds spread over several asset classes and 10% in bond funds -- a reasonable allocation considering how long they have until retirement.
Using online calculators and financial-planning software, the Hopkinses expect their nest egg to grow to about $900,000 by the time he calls it quits in 20 years. Together with Robin's pension and their social security, that should be enough to generate about 85% of their current income in retirement. Plus, although Tom plans to officially retire at about age 63, he expects to continue working part-time to bring in extra cash. (To do your own retirement-income estimate and calculate how much you need to save to achieve that goal, go to www.choosetosave.org and click on "Ballpark Estimate.")
A reformed spendthrift and self-described personal-finance junkie, Tom says that he and Robin now live according to the tried-and-true rules of "live on less than you earn, stay out of debt and pay yourself first." When their mortgage is paid off in eight years, the Hopkinses plan to shift their attention to building a retirement home on the quarter-acre water-view lot they bought five years ago for cash.
Reluctant investors
Although Tom Hopkins enjoys managing his own investments, many people don't. They lack the interest, tools or confidence. Most workers, in fact, still have just one question when it comes to their retirement plans: "What should I do with my money?"
"There is a segment in every work force that doesn't get it -- that doesn't want to be bothered and that wants the burden of saving for retirement taken off their shoulders," says Bill Arnone, a partner with Ernst and Young's Human Capital practice. A 2003 report of 401(k) trends by American Century Investment Services found that more than half of the nation's 47 million plan participants have no idea how much money to save for retirement; a third allocate their money either by guessing or by dividing it equally among all their available investment choices; and fully 80% of participants really want someone else to handle their investment decisions (see Jump-Start Your Plan for steps to get your retirement savings on track.
Over the past 20 years, as many employers discarded traditional retirement plans in favor of 401(k)s, the risks and responsibilities of saving for retirement shifted to employees. During the stock-market boom, few seemed to notice a serious problem: Many workers simply were not prepared to make prudent investment decisions. Once the market started to slide, however, that flaw was undeniable, and workers had to abandon their early-retirement dreams in droves. Half of the respondents to the 2003 Retirement Confidence Survey sponsored by the Employee Benefit Research Institute (EBRI) said they expected to work until age 65 or 66, compared with current retirees who, on average, left the work force at 62.
Employers -- worried that some of their employees might never be able to retire -- have tried to help. About half of 401(k) plan providers offer financial education and investment advice through telephone hotlines, online programs and one-on-one counseling. But even that doesn't seem to be enough.
Managed accounts
The latest innovation is for 401(k) providers to actually take over management of participants' accounts -- choosing their investments, rebalancing their assets periodically and automatically increasing contributions each year. Arnone calls this emerging trend "the next big thing in 401(k) plans."
John Rekenthaler, president of Morningstar Associates, a subsidiary of the Chicago-based mutual fund rating service, agrees. "Five years ago, the trend in the retirement industry was to give people more choices with self-directed brokerage accounts and online advice," he says. "It made sense in the context of the late 1990s and the roaring stock market, but it was suitable only for a small group of people." Rekenthaler predicts that managed 401(k) accounts will become standard within two years. Whether turning the decisions over to someone else makes sense for you depends on how comfortable -- and successful -- you are at making the decisions yourself.
James Holmes, director of human resources at Barloworld Industrial Distribution, in Charlotte, N.C., is a guinea pig in the managed-account trend. At first, he offered his largely blue-collar work force a sophisticated online-advice service to help with 401(k) investments. But he scrapped the service after three years because of low employee participation.
Holmes turned instead to AdviceTrack, from Wachovia Retirement Services, which combines professional investment management with an automated saving feature. AdviceTrack not only calculates how plan participants should allocate retirement savings among different investment options but also implements those decisions. It also automatically increases workers' salary-deferral rates by two percentage points a year, to a maximum of 10%, unless they opt out of that feature.
Even though he knows more about investing than his typical employee, Holmes signed up for the service because he is too busy to keep an eye on his investments. AdviceTrack charges enrolled plan participants 1.15% for money management, on top of the fees charged by the mutual funds inside the 401(k). The fee will certainly be a drag on performance, but could pay off handsomely for those who give little or no attention to their accounts.
"I know I'm going to pay more because I'm going to have a professional money manager do it for me," says Holmes. But for most of his work force, whose account balances are too small to interest a financial adviser, it's the only way to get professional advice.
David Wray, president of the 401(k)/Profit Sharing Council of America (PSCA), sees managed accounts as a way of boosting participation in retirement plans, which fell from 80% at the height of the stock-market boom in 1999 to 70% in 2002. Although it is too soon to evaluate the quality of the investment advice, Wray says automatic rebalancing of employees' accounts will go a long way toward increasing their investment returns. Studies have shown that the majority of retirement investors never alter their 401(k) holdings after they initially select their investments. For sample investment allocations based on a worker's age, see Model 401(k) Portfolios.
Dawna Menke, 37, of Rockford, Ill., has been enrolled in a managed-account program run by ProManage of Chicago since December 1999, three months before the bull market ended. With a six-figure family income, the director of a SwedishAmerican Health Systems cancer center had considered hiring a financial planner. But when ProManage was offered through her employer, she signed up and was advised to reallocate her retirement portfolio into a mix of low-cost stock index funds, value and growth funds and an international fund.
"Before that, I had my money in high-risk funds. I probably would have lost it all," says Menke. Instead, she managed to avoid the blood bath of the bear market, holding her losses to 7% in 2000, 9% in 2001 and 17% in 2002 -- years when the S&P 500 index dropped 9%, 12% and 22% respectively. In 2003, her account balance increased 32%, outperforming the S&P 500 index.
Online users
Rosie Kasim, a project manager with Apple Computer, is a classic example of the type of retirement-plan participant who is comfortable with online investment advice. Kasim, 41, of Palo Alto, Cal., has been an enthusiastic user of Financial Engine's interactive retirement-planning tool since her employer introduced it in 2002. She followed its recommendation to contribute at least 6% of her salary in order to capture Apple's 75 cents on the dollar matching contribution -- a top priority for every 401(k) participant -- and to reallocate her investments from actively managed Fidelity funds into lower-cost Vanguard index funds.
She likes the quarterly reminders to rebalance her investments, the convenience of 24/7 access to her account information and the fact that Financial Engine's allocation advice will also cover the retirement plan that her husband, Andy Maas, has at Time Warner. Looking at the couple's whole retirement picture is a real plus.
But even Financial Engines, one of the original providers of online investment advice, acknowledges that only 10% to 20% of 401(k) participants are "do it yourselfers" like Rosie who are willing to learn about investment strategies and act on their own decisions. Consequently, the firm has developed its own managed-account program following pilot projects with Motorola and J.C. Penney. Morningstar, T. Rowe Price, Fidelity and Merrill Lynch have rolled out similar programs that let workers hand over their investment decisions to the pros. Vanguard Group has taken a different tack: Its One Step plan lets employees (at companies who offer it) sign up for a target retirement fund that combines stock and bond funds and grows more conservative as participants approach retirement.
For investors who don't have access to financial advice or managed accounts at work, the financial-services industry is eager to dispel the notion that only the wealthy can afford a financial planner. Half of the 700 financial planners that belong to the WiserAdvisor network have no portfolio minimum, and 35% have no net-worth requirements, according to Anne Hagen of Wiser-Advisor, a new online referral service that consumers can use to find a financial adviser.
"There's a very large market of mainstream consumers who want objective personal-finance advice but don't know where to get it," says Ron Peremel, chairman of another new service, www.myfinancialadvice.net. "Our service lets consumers shop for a licensed adviser, look at their bios, read about their experience, and buy their wisdom and advice on an hourly basis with no product sales."
Paul Nigrelli, 31, of Hillsdale, N.J., wanted to hire a financial planner, but didn't know where to start the search for someone he could trust. He and his wife, Astrid Wehner, 32, earn six-figure salaries, maximize their retirement-plan contributions and have virtually no debt aside from their home mortgage. Even though he is an accountant and works for a financial-services firm, Nigrelli wanted advice about selecting funds for the couple's 401(k) plans and making other investment decisions. With the help of WiserAdvisor, Kiplinger's put Nigrelli in touch with financial planners Karen and Lewis Altfest of L.J. Altfest & Co., in New York City.
The planners recommended some asset-allocation changes within Nigrelli's and Wehner's retirement plans and urged the couple to consolidate their remaining investments with a discount broker. Overall, though, they applauded the couple's disciplined savings habits, which include regular contributions to a 529 plan for the future college expenses of their 2-year-old daughter, Julia.
"They are young and off to a good start," says Karen Altfest. "They don't need an ongoing adviser, just an occasional check-up to review their progress and adjust for any life changes, such as the birth of another child."
Scandalous funds
Because funds are the primary investment vehicle inside 401(k)s, retirement-plan investors have a special stake in the trading scandal rocking the mutual fund world.
What should you do if your plan includes funds tainted by the scandal, including Alger, Alliance, Bank of America, Invesco, Janus, Putnam and Strong? First, if your plan offers funds with similar objectives, dump the bad guys. One advantage of being inside a 401(k) is that there are no tax consequences for switching. If your plan doesn't offer alternatives, it's time to raise hell with your employer.
Should you bail out into a money-fund option or cease contributions? Absolutely not.
What about the proposal to impose an absolute 4 p.m. eastern time cutoff for trades? The idea is to make late trading impossible, but it could cause problems for retirement plans. Under current rules, the plans can accept trades until the market closes, then handle the paperwork with the funds after hours. The imposition of a 4 p.m. cutoff for the funds would make plans back up their own deadlines--perhaps to noon or even earlier. "Plan participants would essentially become second-class mutual fund traders," complains a report by Hewitt Associates, a consulting firm that runs 401(k) plans.
Hewitt makes a good point, but an even better one might be a reminder that 401(k)s are for long-term investing, not day trading. The vast majority of participants won't be impacted by a 4 p.m. trading cutoff, except to the extent that it and the other reforms restore faith in the funds.
--Reporter: Joan Goldwasser
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