Where to Invest Your 401(k): Understanding Your Options

Opening your retirement plan’s investment menu can leave you with a list of funds and very little sense of where to begin. Deciding where to invest your 401(k) starts with understanding your situation and how much responsibility you want for managing the account. Your timeline, ability to handle losses, other savings and investment costs all belong in that decision. Recent performance alone cannot tell you which approach fits.

A 401(k) is an employer-sponsored retirement savings plan. The funds inside it determine how your money is invested, while your contribution rate determines how much you add from each paycheck. Choosing Roth or pre-tax contributions is another decision about tax treatment. Keeping those choices separate makes the investment question easier to work through.

Start with your situation

Begin with when you expect to use the money. Retirement savings you will need soon serve a different purpose from money that may remain invested for decades. Consider other retirement accounts and expected income as well, because your workplace account may be only one part of the household’s plan. The investment choice should make sense within that larger picture.

Distinguish your comfort with losses from your financial ability to absorb them. You might feel comfortable taking risk but have little flexibility if a decline occurs just before withdrawals begin. Someone else may have more financial flexibility while finding market swings difficult to tolerate. Both factors matter when deciding whether you could maintain an investment approach through a difficult period.

Understand the two investment routes

target-date fund

A target-date fund generally combines several investment categories in one option. Its manager handles the allocation and rebalancing inside the fund, and the mix usually becomes more conservative over time. The target year refers to an approximate retirement year. It does not guarantee a result or establish that the fund fits everyone planning to retire then.

Building your own portfolio

Building your own portfolio means selecting and combining funds from the plan’s lineup. You decide how much belongs in each category and take responsibility for monitoring the mix. This route provides more control, along with more work. Before choosing it, consider whether you want to make those decisions and maintain them over time.

The way a target-date fund changes its mix is called its glide path. Two funds with the same date can hold different amounts of stock, follow different strategies and charge different fees. Review how much risk the fund takes today and how it expects to change around and after the target year. The SEC’s overview describes the basic structure.

A target-date fund’s underlying investments may already cover the categories you are considering adding separately. Adding another stock or bond fund changes your overall mix, so understand the combined holdings first. More fund names do not automatically mean more diversification. A simpler approach can still require periodic review when your circumstances change.

Understand what building your own mix involves

Stock funds provide exposure to companies and can experience substantial changes in value. Bond funds may provide income and diversification, but they can also lose value. Some plans offer cash-like or stable value options, with their own risks, costs and restrictions. Check the actual plan menu rather than assuming every category is available.

Diversification involves both the mix of broad categories and the holdings within them. Several funds may own the same companies or concentrate on the same industry. Review what each fund contributes to the whole portfolio. The question is whether the investments play different roles that fit your situation.

Rebalancing brings a portfolio back toward its intended allocation after market changes or other activity cause it to drift. For illustration, a hypothetical mix intended to hold 60% in stock funds and 40% in bond funds might later hold 70% and 30%. Restoring the original mix is different from choosing a new allocation because of a market headline. Those percentages illustrate the process only and are not a recommended portfolio.

Compare investments before choosing

Use the same questions for each option: What is its objective, what does it own, how is it managed, what risks does it carry and what does it cost? Review performance in that context, without assuming the past will repeat. Your fund materials and participant fee disclosure can help supply those answers. Investment expenses reduce the amount that remains invested, as the SEC explains.

Make your choice and set a review habit

When you submit an election, confirm whether it changes your existing balance, future contributions or both. Recordkeepers can handle those instructions separately. Review the confirmation and next statement so you know what happened. Then revisit the allocation periodically and after meaningful changes in your timeline, income or household responsibilities.

Start with the route you can understand and maintain, then use your plan’s materials to evaluate its fit. If you need help finding the information, contact your HR team, recordkeeper or the retirement contact identified for your plan.

Securities offered through LPL Financial, a Registered Broker Dealer, Member FINRA/SIPC. Investment advice offered through Gateway Wealth Partners, LLC, a registered investment advisor. Gateway Wealth Partners, LLC, McClone Retirement Advisors and LPL Financial are separate entities. TAX AND LEGAL DISCLAIMER: McClone and its affiliates do not provide tax, legal or accounting advice. Any material prepared is for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and/or accounting advisors before engaging in any transactions.