Taking Advantage of Your 401(K)

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I wanted to present you with one more gem from my friend Nancy Zambell. Follow the advice below and you will be well on your way to making educated decisions in your 401(k).

The first investments that many investors purchase are the mutual funds that are offered through an employer's 401(k) plan. Over time for many investors these accounts add up to the majority of their investment funds.

Yet - through my years of helping friends, families and associates make sense out of these programs - I have discovered that many people do not have a good understanding (and sometimes, none at all!) of just what they are being offered. Instead, they just check off boxes, deposit their money every pay day and hope for the best.

That is not exactly what I would call a smart investment plan. Yet, who can blame the average employee/401k investor? Their employers' present them with a 2-inch stack of papers that may include a prospectus for each fund offered, pie charts illustrating different combinations of funds, and a bunch of numbers on fund returns and costs. If the employees are lucky, they will attend a 15-minute meeting where some fund administrator waxes eloquently about the tremendous opportunities of joining this 401(k) , but will offer little of value to steer the employees into the best funds for their personal situations. And then.they expect their employees to fill out the application, choose their investments and return the paperwork in a day or two!

It's a pretty bad introduction to investing and it's no surprise that talking about 401(k) plans causes an immediate eye-glazing-over for most folks. But there isn't really any reason for the confusion. All it takes is a little knowledge and some elbow grease, and you will never be scared of opening up that 401(k) package again.

Here are the major mutual fund categories :

The most popular are equity funds . They are just what they sound like: Funds that invest in stocks. They are categorized as follows:

  • Large cap (>$5 billion)

  • Mid cap ($500 million -$5 billion)

  • Small cap (<$500 million)


Additionally, each of these categories may be further divided into:

  • Value funds include equities that are priced inexpensively, relative to their earnings potential.

  • Growth funds consist of companies with high growth, but also are more volatile and risky than value stocks and generally priced at a higher premium.

  • Blended funds are a combination of both value and growth equities.

Sector funds concentrate on one particular sector of the economy. There are sector funds for just about any industry or sub-sector of any industry. Oil, energy, financial, pharmaceutical, semiconductors, hardware, technology, software - you name it - there's probably a sector fund for it. While the concentration in one industry can bring fabulous rewards, it can also cause significant losses, making these funds more appropriate for investors who can handle more-than-average risk.

Bond funds , which invest in fixed-income securities, are also very popular, especially for investors who are more conservative with their money. These funds are available in short-term (1 - 3.5 years) , long-term (>10 years) or intermediate-term (3.5 - 10 years). And bond funds come in a few varieties also:

  • Government and government agency: The 'safest' (in terms of recouping your principal), but generally pay the least amount of interest.

  • Municipal: Bonds issued by state and local governments and their agencies, in the form of general or revenue issues. Tend to be fairly safe, but investors should pay attention to their bond ratings before investing. For easy access to the major bond rating firms rankings, go to Bonds-Online.com

  • Corporate: Bonds issued by corporations and tend to pay higher interest than governments or munis. May be safe or risky; ratings should be checked.

  • High-yield: Pay higher returns, but also tend to be much riskier than investing in regular corporate, government or municipal bonds. Investors should pay heed to their ratings.

Balanced funds may include a combination of equities and fixed income investments, 'balancing' out risk, but also reducing returns.

Foreign funds offer investors the opportunity to own stocks and bonds of companies outside the US. Selections include:

Global funds may also encompass US stocks and bonds. Of all the foreign investments, they tend to be some of the safest, since many contain US investments.

International funds have no US investments, and they run the gamut from safe to risky.

Country-specific funds will generally invest in one specific country or region and can be very volatile.

Emerging market funds invest in undeveloped regions of the world. They can offer tremendous growth, but also significant risk.

Money market funds tend to be very safe since they invest in very short-term securities, but also offer fairly low returns.

Ok, now you have a handle on the major categories of funds. Your 401(k) plan will most likely offer a combination of different types of funds, fused into several investment strategies, such as conservative, growth, value, blended, income, or balanced. To prepare for your selection, you will need to consider your time frame for investing (i.e., how long before your retirement) and then make a decision as to just how risk-averse you are in order to determine the types of funds and strategies with which you would be most comfortable.

Once you have made those important determinations, you'll be ready for the next step: Evaluating and comparing the available funds in terms of returns, costs, turnover and management strategies.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.




This article appears in: Investing , Stocks

Referenced Stocks:

Wyatt Investment Research

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