Wednesday, October 28, 2009

The Aha! Moment

There is no doubt that an enormous amount of confusing information is still floating around about retirement planning. Folks are trotting out old mares, suggesting that slow and easy is still the best approach. Some a taking the rider off the horse altogether, instead putting them in a wagon - you know, for safety's sake. Others still are suggesting that if you don't whip this beast more than you currently are (I am in this camp) you will run out of money when you retire. That is, unless you keep working until you are so old, retirement lasts only a decade or so.

How do you sift through it and come up with a feasible plan, one that takes into consideration all of the threats and possible missteps that can occur? How do keep the plan rigid enough that you can make better-than-probable predictions about what you might be able to live on and how not to outlive your money?

Risk is in the Spotlight
Judging from what I have encountered, it must be very difficult indeed. Risk has jumped to the forefront of conversations. Many investment advisers are falling back on this thinking: If you lose less than you thought you would, then you can give us credit for suggesting the low-risk approach to your retirement investing. On the other hand, who will get the blame if what you projected your retirement accounts to hold comes up a decade short of where it should be?

We have spoken about the risk of too little risk. We have discussed the effects of only looking at upside potential, ignoring the downside (diworsifying) as an indication of future returns.

We Want New
Yet there are still those that think protection of assets is what your tax-deferred accounts should be. This is understandable. We want fast fashion as economist Juliet Schor describes it. If what we had no longer seems to be working, then something new, something better might work. For many of us who have never tried it, the something new often means less risk, not more, fewer opportunities to grow your money by slowing the potential to a trickle. This approach relies on a much heavier stake than many of us are accustomed to doing: increasing our contributions.

The gradual shift from stock exposure to bond exposure over time is a sort of false diversification. Yes, there was a ten-year period when bonds did better than stocks. And there was a twenty year period when stocks did better than bonds. In either instance, the differences were almost insignificant. Neither has outperformed the other so indisputably that you should go with one or the other.

Which is why so many suggests a mix of the two. But this ignores innumerable possibilities, allowing what could be beneficial to fall by the wayside. It encourages single index investing (if you do it outside of the popular target-date funds) and relying on a mutual fund manager to do it for you (inside a target date fund).

Doing this, you pass up the international and emerging market exposure that global investing has become. Tying your fortunes to one country, no matter how you structure your investments is no longer diversification.

There is the lack of investor acknowledgment that commodities drive a great deal of our marketplace and invested by the right hands, can add some protection over long periods of time. This cannot be accomplished inside funds that promise to decelerate your risk exposure over time using what would appear to be conventional techniques. Not to mention the fact that these funds have not been around long enough to have any provable track record, and now, their exposure to stocks has found the concept worthy of SEC scrutiny.

You can add a great deal of the risk you need simply by keeping your 401(k) actively involved. This is where you should harbor the risk you need to undertake the difficult goal of creating enough wealth. This will come at a cost that many are suggesting is not worth paying. Increased fees can be problematic, but some exposure to these markets through index funds that track smaller and more specific areas often harbor competitive fees and far better returns than their large company counterparts.

Index funds that track the largest companies or mutual funds that mimic indexes should be kept on the outside of your tax-deferred retirement accounts. (I make this argument here.)

So How Much is Retirement Going to Cost?
Attempting to predict what your future needs in retirement will be is as easy as looking at your current spending and debts. How much of those bills will you be carrying into those golden years?

If you look at your retirement plan as a risky undertaking, something you can orchestrate to be in the right place at the right time - or better, diversified enough that no one place hurts the whole of your investment plan - then you will find yourself looking to stocks as a greater portion of your portfolio.

If you still want to add a conservative element to your plan, I suggest that any new investment contribution should be directed towards that, a move preferable to diverting funds away from another investment. The key isn't increased risk, it is maintaining levels of risk that allow portfolio growth and it is increased contributions.

Paul Petillo is the Managing Editor or and a fellow Boomer

Monday, October 26, 2009

Retirement Planning Trick or Treat

Retirement planning has become a very much a trick or treat landscape to navigate. Numerous products will be found in your 401(k) plans in the near future that might not prove to be the best solution for the investment dilemma your retirement accounts are in. And with Halloween just around the corner, perhaps we should look at some of the treats in your bag.

Inside Your 401(k)
Let's start with the easiest one to talk about, the index fund. This investment offering is in your 401(k) account and offers low fees, which is good, they offer of low volatility, which is attractive after last year, and the promise of steady returns. They mimic a published index and they follow those stocks to meet or beat that index all while providing you with enough of a risk return relationship that will get you to retirement. They are not your favorite trick or treat sweet; the one you will eat after the good stuff is gone kind of investment.

Fees can vary widely in 401(k)s and some of them are hidden from view for good reason. It is one thing to be charged fees in a fund, it is wholly another matter to charge them for managing the plan. So many plan sponsors are finding funds for their participants that charge lower fees but at the cost of returns.

But wait, index funds are created equal. After all, there is the index they must follow. Not quite follow. Only about 75% of the stocks in the index are actually held in a S&P 500 index fund, and a third of the available companies are in a fund that tracks the Russell 2000. That leaves room for besting the index. And some do, particularly in the small-cap space where index funds can beat the index by eight to ten percentage points and do it with fees that are the same as some popular S&P 500 funds.

And fees in those funds can be all over the map. Why? Perhaps tracking error as they trade and research more than a similar fund. Perhaps because your index fund may be wishing it were an actively traded one. Reasons vary and so do the fees.

As Good As They Are
Index funds, as good as they are, should be kept outside of tax deferred retirement plans. This will allow you to control the fees and potential returns/risk those funds are taking much better. And in the current tax environment, it might well be worth paying for them now. Consider the three years worth of losses you would have been able to write-off after the downturn.

In 2010, tax rates will change for dividends (to that of ordinary income rates) and capital gains (to 20%) which is still a good deal - at least for the next couple of years. Dividend payouts are down and not likely to begin to increase soon making that tax reasonable. Twenty percent is not 15% but still not a bad deal.

(I realize that this sounds as if I'm advocating for the more expensive actively managed funds in 401(k)s. I am although I am just looking at it from a time frame point of view. Without a doubt, early investing is best. But many folks have entered the fray of 401(k) management with less than fifteen years until they would like to retire. Even if this group maxed out their contributions, it would take a solid 8% return year over year to get even close to enough to draw $15,000 a annually from the account and not run out of money. Risk inside a tax deferred account. Less risk outside. Your 401(k) plan unfortunately is your "mad money account"!)

Some Confusion Remains
People still confuse savings with investing too often and that, I believe, is one of the real problems with how folks recently readjusted their retirement accounts. Savings is not investing. As a result of this misdirected thinking about what those accounts really were, they have assumed so little risk, they put their "planning for retirement" at too long term a pace.

Retirement planning has become a very new and tricky landscape. People switched, sold or borrowed from their 401(k)s at the exact time they should have been rebuilding them. Had they stayed put and if they were fortunate enough to be able to continue their contributions, the vast majority of them would have seen balances in those accounts close to what they were at the 2007 year-end. What scares me now, is that there are new products on the shelf to add even less risk (at least in the sales pitch of loss) that investor/consumers might find attractive.

The Next Disaster
Disaster planning, which may comes as a shock to almost no one, can effectively derail any well-laid out plan. Kids, parents, jobs and a host of other problems can make deciding which move is best to for you doubly hard as you try to construct their plan.

Building a retirement that is financially predictable, growing savings that is stable and accessible and using your 401(k) plans to guide your future is no easy task. You will be assailed in the coming months and years with products that promise to protect your gains with products that are essentially insurance. Compared to index funds, these are like the neighbor who gives you a toothbrush. Good idea but the wrong treat

Retirement planning needs to be earthquake proof. That means considering new and innovative ways to get the 50 year old investor back in position to retire while s/he can. Less risk is not the path.

Paul Petillo is the Managing Editor of and a fellow Boomer.
Further reading on index funds in your 401(k)

Thursday, October 22, 2009

Could a Change In Tax Law Save the 401(k)?

William Bernstein writing for Barron's foresaw the future of the 401(k), this country's most ubiquitous retirement plan. “The 401(k) is likely to turn out to be a defined-chaos retirement plan.” And so it goes. Almost nine years after that comment was penned, the 401(k) has, for the most part, turned out to be a failure for most, a disappointment for some and far too much work for those who use it to its fullest.

The Investor Class and The Rest of Us
This is based on numerous reasons, almost all dealing with our own, largely undefined and for the most part, beyond description approaches to investing. We are all over the place, trying to attach method to our madness and sound reasoning where there is none. This means that there is an investor class and the rest of us.

Unfortunately, we don't have to be exiled to the outside. But keep in mind, despite your best efforts, you will never be completely admitted to this elite group. Don't worry, many of those who are members are there by accident, something time will uncover and because of the nature of the class, they too will be kicked to the sidelines. In many respects, we are simply spectators.

Pensions are not dead although they are quickly becoming something of the past, relegated to the obviously smarter workforce, the union laborers. These folks admit to not knowing about where they should put their money, so instead of directing their own fortunes, many let trusts operate the investments.

(This is where a group of concerned folks gather, the employers and the union and determine where the best place to invest is. And statistics have shown, that in many instances, they do better than companies do when they hire "professionals". Also damning any chance at success is the interest the company has in the pension and how it relates to their balance sheet.)

This is sort of a forced retirement with the laborer giving up pay increases for pension contributions. And in the case of the trusts, it generally works like a charm. There are exceptions, particularly during labor disputes and troublesome negotiations when the welfare of the member is often second to the economics of the contract.

The Retirement Calculation
And in the three decades since its inception, we have proven the concept more or less incorrect. We are forward looking creatures that mistakenly attribute possibility to reality. In many instances, we have pre-determined how much we will need, how much we will need when we retire and how much we will need to save to get there. We have the whole plan sown up. That is until there is a bump, or in some instances, a really big bump jostles our fragile framework to the core.

Companies have shirked their fiduciary responsibility time and again. They enlist plan sponsors who are hellbent on squeezing every dime they can from every nickle invested. These fees, some hidden, some acknowledged are often higher than the individual investor might pay. And because the funds you choose form are locked inside a structured plan, shopping around is limited to what is on the shelf. In the land of choice, the plan that needs to have the most options is closed to competition.

The 401(k) appeals to our herd mentality, driving up our gains (at least on paper as we chase the hot funds and the sizzling picks our cubicle neighbor has chosen) and driving our losses further as we try and stop the bleeding. We look at these accounts as money saved (which it isn't) and add to the debacle and withdraw or borrow against these accounts.

And we like to blame. It is also in our natures. Which is why some feel as though the 401(k) hasn't been given enough time to work. Yet those who have a pension, what I have referred to as the great economic stabilizer for many Americans who have them, have seen their fortunes in their post-work years remain stable. You have to realize, these plans were designed for those who had nowhere else to go with their high level of earnings. This tax-deferred portion of the tax code was custom made for this group. And it would have been for us as well except that we don't have enough time in the plan to make it work the way it was designed.

We haven't contributed enough either. To reach the portion of pension payment using your 401(k), you would have to retire with three times your current balance, provided you took advantage of all the free (matching) funds and maxed the plan out. Now the matches have gone away and fewer people bother with the maximum contribution. The catch-up clause is just wishful thinking.

Fix what is Broken
So can this thing be fixed? Yes and no. If 401(k)s are only worthwhile when you retire, why then do the changes to these plans, improvements that make it easier to keep invested and stay invested have to come from the government? Talk has been shifting towards some sort of government run pension plan or an exchange where employees can by some sort of guarantee (adding a new player to the retirement game, the insurance company). Neither of these is feasible.

Nothing says participate like less taxes and this sort of incentive offers some easily projected numbers that are easy for even the lay-est of investors to understand. Matching contributions may not have lured sideline investors because it meant money out of "pocket" or less in the budget.

The IRS could act to make all 401(k) plans more tax friendly.

Based on the fact that 401(k)s are essentially tax events, the wrong agencies are stepping in to try and fix an IRS problem.

Here is what I suggest: Consider making the tax deferred deduction on the 401(k) contribution twice what it currently is and you will, in essence, give the employee a raise. You could force a minimum contribution and surprisingly, it might not even be noticed. As many of you already know, 5% barely changes your take home pay. But getting an additional deduction would.

The IRS could take it one step further by then fixing the withdrawal tax table. Many of us don't know what we will be taxed when we retire because we don't know what we will be able to withdraw. The IRS could place a 5% cap on anything under $20,000 a year, 15% for all additional annual draw-downs. Upper tier investors would want to pile in and this would have the net effect of raising all investor boats. (To recover much of this lost taxable revenue, reducing the contribution limit by a thousand dollars to $15,500 would force those who could invest that sort of money to pay the taxes and put the money in a Roth. My roughest calculations show that it would add $10 billion a year to the coffers, offsetting the increased deductions.)

The IRS could also penalize those tax returns (in the nicest way possible) and tax any over payments in excess of $500. This would be directed to a group 401(k) that would be directed towards a state sponsored target date fund (even though I don't like them much, for this purpose, they may be custom made). When the person applies for retirement benefits, this fund would be added to their benefits and because it was already taxed, it could not be taxed again. Applicable tax rates for 401(k)s would also apply on any interest gained.

Harsh medicine? Perhaps. But the end result would be more money to spend now, more money to spend later and more money that many would not have. All by changing the tax code.

Paul Petillo is the Managing Editor for and a fellow Boomer.

Wednesday, October 21, 2009

Outwit, Outlast, Outplay: Surviving Retirement

It was bound to happen. Most of us have been predicting it for years. Retirement. That long awaited event which bridges the days of wealth accumulation with the moment of wealth draw down. All of your hard work, your scrimping and saving, your investing and financial wrangling all come down to this moment.

And as the first wave of Boomers begins to eyeball retirement, how it will be accomplished is not as certain as it was just five years ago. Optimism has been replaced by skepticism as folks look at depleted 401(k) balances and wonder if anything they had planned for, any retirement dream they had dreamed, will come true.

There are several things you have to consider as you stand at the foot of that bridge. Do you want to cross? Do you need to or worse, do you have to? Retirement, the time you have been waiting for, planning for, investing for may not be the dream scape you had once believed it would be.

In our thirties, if we looked far enough ahead and were wise enough to begin investing, envisioned retirement as a time of rest a relaxation, funded by wads of discretionary income generated from decades of smart money moves.

In your forties, you saw the end of the line a little clearer and realized that discretionary spending might not be the primary focus of those golden years but a benefit after essential spending was done. You are more mature and have a better grasp on what things costs, how much money it takes to maintain the lifestyle you are comfortable with and how hard you have to work to maintain it.

In your fifties, you have a better grasp of the bookend pressures that life often is. Your parents have needs, some of them financial that cannot go without consideration. Your children have needs that might be beyond the cost of college. They may have started a family, bought a house or simply moved back home. Each of these may have been an unplanned financial drain changing your estimations of where you had hoped to be.

All through this, you struggle to prioritize your investments, trying to justify your contributions to your 401(k) plans as budgetary pressures weigh in. And then, as if you needed it, the markets decide to add their own bit a pressure to your plan. These are all well expected events, something prudence and wisdom should have warned you about. Problem was, you were still busy living.

Now the time for retirement is within reach and you wonder how well you did. Did you outwit the markets? Was your investment strategy the right one? Will you have enough to survive?

If you began your retirement journey early enough (which most of us haven't), you have given your investments the opportunity to grow. But few of us have used our 401(k) plans long enough to achieve the results we had hoped we would. The 401(k) simply has not been around long enough (just over 25 years since its introduction) to consider this a career long investment.

Rather than thinking about how much longer you might have to work, think of your situation as "how much longer do I need to keep investing". To get the maximum from your retirement plan, you need thirty or more years of steady investments to achieve the kind of wealth accumulation that would allow you to begin to draw down (decumulate) those accounts.

We tend to, even after the market correction that damaged many balances, still be overly optimistic about how much we will need in retirement and how much those post-work accounts will earn. Optimism points to a steady return of 8% on those accounts or higher. Fixed income accounts, those primarily invested in bonds will need almost 6% year over year.

And then there is the income that these accounts will generate. Do you pick 4% a year, adjusting for inflation as the target number? A $250,000 account balance at retirement will provide about $15,000 a year and at that rate, will deplete your account in thirty years - and that is based on a very optimistic and we now know, uncertain 8% return. To achieve a $50,000 a year income, you must have a balance of $1.25 million at the time of retirement.

What if you are nowhere near that account balance? Aside from working longer and keeping your investments in a greater share of the equity markets than most suggest, the best way is to enter retirement with as few of the "essential" bills hanging over your head.

Will you retire with a mortgage? This was not something your parents had to contend with. As one of the single greatest drains on your working income, taking your mortgage into retirement is simply not feasible. Taxes and insurances will, without a doubt, increase faster than you anticipated. Upkeep on property (homes, cars) will add an additional drag on your plan.

Making that post retirement income work may require you to divest. Is this part of your plan? The more liabilities that you enter retirement with, the greater the pull on your assets. Rather than look at retirement as a "how much will I need", a change in focus to "how much does it cost me to live" might be a better way to look at the possibility.

If your balance sheet shows more than 25% of your current income going towards your liabilities, you do not have enough money to retire. While you should keep investing and contributing to your retirement accounts, you should also be drawing down the cost of your lifestyle to match those assets. This is something within your control.

The less debt you enter retirement with is perhaps a better determination of how much money you will need to survive this important game of strategy. It is not how much you need to retire, it is what will you need it for.

Paul Petillo is the Managing Editor of and fellow Boomer.

Tuesday, October 20, 2009

Subtle Changes in Your 401(k)

While we can discuss risk and the risk of too little risk, the real risk might be where you put your money in your 401(k). In fact, what your plan offers may be so limited that your choices boil down to good and not-so-good. Most common, garden variety 401(k) plans offer index funds, lifecycle funds and if you are fortunate, actively managed funds.

Life cycle funds represent a group of offerings focused on a particular target year that you would like to retire. These are essentially actively managed funds that shift, at least in theory, from aggressive to conservative over the course of your career. Actively managed funds tend to pick a sector, such as large-cap stocks, and focus their investment prowess to the best possible return. Index funds are designed to track an index of stocks (or bonds), ranging from the top 500 companies to indexes that track the smallest.

Before I tell you about how index funds can differ (which is odd, considering an index fund essentially attempts to mimic the published index) I want to talk about a person who wrote me last week. Although her email sounded panicked, she knew that there was little she could do about what her 401(k) plan was doing to her portfolio.

She told me she had chosen four funds in her 410(k) to invest in, the bulk of which was directed towards a small cap index and a mid-cap index run by Merrill Lynch. She believed, and rightly so, that this would be where the recovery would take place. These funds had always done well she told me, and when the markets turned sour and her funds were brutally beaten down, she kept her investment dollars streaming in.

Because markets do recover and her investments remained consistent, her portfolio value is now within a couple of thousand dollars of her year end balance in 2007.

Her concern was a change her plan sponsor was making in those funds, switching to another group of funds offered by Northern Trust. The reason according to a notice she received from her plan sponsor was the cost of fees.

Focused on Fees
In general, index fees should be as low as possible.
The idea is simple:
1.There is no trading to be done between the time the index is set and the next time it is adjusted;
2.There are no research fees;
3.And inside your 401(k), there should be no 12b-1 fees (the cost of advertising for new investors paid for by the current investors);
4. And lastly, because the company, in her case it was Kroger, the fiduciary responsibility (what a plan sponsor does is based on the assumption that it is best for the employee's future) demands the best deal.

That would be in a perfect world. Not to pick on her company's plan, but it doesn't fair very well when they are searched for using BrightScope, a retirement plan quantifier (information about their invaluable service can be found here) and this had her worried. Just because she has a plan, doesn't make it the best of all worlds, simply the one she has to live with.

Her plan was shifting her small cap index fund (with an expense ratio of 0.15%) to one that offered to track the same index but at 0.06%. At first glimpse, this seems like a good move. Lower fees are always good. Second glances however show how poorly the new fund offering has done compared to what she had before. Her new fund has a year-to-date performance of 12.52%; her old fund had chalked up a 29.83% return. Year-to-date, the Russell 2000 index of small cap stocks has racked up an impressive 22.43%.

Why would they do this, she asked? Other than being able to suggest that they are trying to do all they should for you, substituting one index for another based simply on fees, there seemed to be no clear answer. It is troublesome to be sure but not uncommon. It is also evidence that not all indexes are created equal or cost the same.

Index funds are subject to all sorts of influences. Fees run the gamut from absurdly low to ridiculously high. There is also the pesky probability of tracking error, a problem some fund managers get into as they try to outperform the benchmark. This tends to increase the expense ratio by forcing more trades and increased research. But it might also allow the index to outperform.

Keep in mind, your index fund does not buy every stock being benchmarked. An S&P 500 index generally has only about 75% of the stocks on the list in the portfolio. How much of each is often the reason for the disparity in returns. A Russell 2000 index fund has only about a third of the companies listed.

Most people think of Vanguard Group when they think of index funds. But their much-touted S&P 500 index fund carries an expense ratio of 0.15%. My friend’s small-cap index fund, the one that did so well, charged her the same as this less risky S&P 500 index fund cost.

Add to that, there is relatively poor information available to her even through her plan. A great many of the funds offered inside your plan are not offered to individual investors making information gathering difficult. Plan information is improving but comparisons are still hard to make. She was more upset that no one asked her if she would like to switch.

Not All Plans are Created Equal
Looking inside your 401(k) is never easy. For Boomers (and anyone focused on retirement), it can be especially difficult. You are torn in many cases between necessary risk and the fear of that risk. Your portfolio may not have recovered as quickly as my friend's did but consider the option of too little risk as one not worth taking.

There are basically only two ways of achieving the goals you may have set. You could increase your risk and/or increase your contribution. If you do the later, you can use the additional funds to purchase something more conservative while leaving your original contributions, the funds directed towards more risk, intact.

You should remember that if your plan offers only index funds and lifecycle funds (target-date funds), chose the index offerings. If your plan offers choices beyond index funds, choose the actively managed funds across a range of disciplines (large-cap, mid-cap, small-cap and international). In some cases, the fees might even be as competitive as the index fund that tracks them.

In the end, my friend did nothing. She had one of those not-so-good plans. Her only option was to increase her contribution to make up for the unrealized returns.

Paul Petillo is the Managing Editor of and a fellow Boomer.

Monday, October 19, 2009

In Your 401(k): Looking at Worst case Scenario Instead

It is simply our nature. Even when we think we are acting in our own best interest, we often allow optimism to rule most of our investment decisions. Yet, if we look closely at the worst case scenario instead of the best possible outcome, we might uncover some interesting tidbits of information that could help us achieve better results in our 401(k)s.

By now, most of us now realize that our mutual fund investments, particularly those in our retirement accounts, can go down, often dramatically. Until recently, we paid little attention to how bad a fund can perform, focusing instead on how well it can do.

Some of us use those online retirement calculators to help. Others simply look at historic gains and predict where we will be balance-wise in the far off future. We make random estimates of how much money will be in the account when we choose to begin drawing it down. And as we now know, this can be less than we anticipated (just ask anyone who has postponed their retirement because of a lower than expected balances).

So how do you determine the performance of a fund, or better, the risk that the fund will do what you intended it to do?

The Blame Game, revisited
Some hedge fund managers think they have the answer. It is complicated? Yes. Is it impossible for the average investor to determine? Not if you consider the manager as the sole blame for the fund's performance.

Mutual fund managers are part of the equation you use to pick a fund. Tucked in amongst the performance of the fund, the underlying holdings and the fees, we look at the fund manager's tenure. The assumption being that the fund manager will do much better the longer s/he has been at the helm. Tenure also assumes that the fund will have stabilized over the period that the manager is in control.

Fund managers as we (should) know must follow the charter of the fund. This is not as easy as it sounds. Far too many fund managers fail in their attempts to avoid style drift, a notoriously common occurrence whereby the fund manager tries to imitate whatever index works, in the hope of mimicking the return of the benchmark it will compare itself to at the quarter's end. This is managing for the upside, often shifting holdings at or near the quarter's end to give the appearance of better-than-average performance.

So we look at the end result when we should be looking much more closely at what occurred during the periods between reporting.

Some fund watchers suggest that simply looking at these sorts of results is not only the wrong thing to use as a way to decide where to invest but will also cause you to assume that good times are part of the continuing experience of investing. As we know, markets go down. How the fund manager did during this peak to valley performance is, as some are beginning to realize, a better indication of how well the fund has done and the manager has performed.

Richard Gates, portfolio manager for TFS Capital thinks "the best way to estimate risk is to try to quantify a portfolio's downside volatility. In other words, how much money can I lose in a given period of time?"

Wandering in the Valley
Volatility is an excellent measure of the fund's performance during certain periods. But few of us look at the way the fund manager managed the portfolio (during her/his current tenure and better, their performance in the past) as the indication that your fund will do as expected in the future.

Fund managers are awash in information and you rely on their ability to parse this information, apply it to where you would like the fund to go in the future, and limit the downside risk. Your fund may have lost money; but did it lose as much as comparable funds (benchmarks excluded)?

Some analysts suggest that instead of looking at the best day and make withdrawal assumptions based on that point of reference, you should look at the worst day, the moment when your portfolio looks its weakest. If is better than most, you have hooked your fortune to the right manager.

But don't limit your assumptions with the current fund under management. Look at all of the performance results from every fund they have managed. Digging a fund out of a bad period is perhaps the best indication of the fund manager's expertise.

This is no easy task. Funds on the downside of expectations face some unusual pressures. Investors bail in disgust forcing redemptions to rise which force the fund manager to sell underlying winners. This creates a tax situation that all of us would have rather be avoided. There is less money to channel towards new investment opportunities and the fund struggles. How they turn this around may be the single best indicator of their skills. Past results, it seems, matter more than you might expect.

Paul Petillo
Managing Editor/
Contact Paul with questions.

Thursday, October 15, 2009

Shining a Light on Your 401(k)

It Should be Easier
There are numerous obstacles that keep us from building enough wealth in our 401(k) plans. The first is as simple as beginning to invest in your retirement future. This is stressed frequently and with good reason. The earlier you begin investing, the better situated you will be for retirement in the far-off future.

The second hurdle is how much to invest. I suggests that no matter how poorly a plan you have with your employer, setting at least 5% of your pre-tax income (a number that does not have much of an impact on your take-home pay) is better than not investing at all. For first time 401(k) investors, who may need as much of their paycheck as possible, this is a good start.

The third hurdle is the company match. This is used as an incentive to get you to put some money away for your future by offering to match the first couple of percentage points. Some companies do not do right by their employees when they match only with their own company's stock or if they have lowered or withdrawn the match due to the "economic downturn".

And the last hurdle to these beginners is where to put their money. Not all plans are created equal and not all investments in these plans are worthwhile. That doesn't mean you should ignore the opportunity to invest, it simply means that your choices are not as good as they could be. This is particularly troubling if you are an older investor who may have gotten a late start or if you have changed jobs and are now enrolled in a less than adequate plan.

The Role of the Investor
Often, 401(k) users simply sit back and allow these companies to make difficult choices without their input. There is a fiduciary responsibility that is assumed by your employer when they offer you a plan like this to provide not only viable investments but opportunities to grow your money.

Becoming more vocal, even if you are the lone voice in the crowd used to be difficult. Access to necessary information was largely outside your abilities and most of the information was held close to the vest by the employer. Since January 2009, that has changed.

BrightScope, the brain child of two investment managers and a former engineer at HP, allows you to look at your company's plan in a way that was not possible previously. Designed to help human resource departments make good choices about plans, BrightScope seeks to give these folks some sort of benchmark to judge how their plan is run and how their employees access it and use it. BrightScope realized that "because benefits data has been controlled by a small group of companies that are not incentivized or governed by the same fiduciary standards that a plan sponsor must honor" difficulties in determining which is the best plan to offer their employees was not possible.

This concept understands that transparency is not what it should be and even though regulation to improve these plans may be forthcoming, waiting to id not a better choice. BrightScope it should be noted works with these HR departments and those with the fiduciary responsibility to improve those plans now.

How does it Work?
The software it employs, according to the website, works like this:
"BrightScope obtains some of its data from public sources such as the Department of Labor, the Securities and Exchange Commission, the U.S. Census Bureau, the Equal Employment Opportunity Commission, and the Bureau of Labor Statistics. Mutual fund asset allocation and fee data are obtained from mutual fund prospectuses, statements of additional information (SAI) and Form N-SAR. Mutual fund return history data is obtained from Xignite, Inc. Data on 401k fees comes from company filings, and directly from plan sponsors who work with us to improve their plan. While all participant-level data is protected and confidential, we aggregate data across comparable companies to construct relevant benchmarks for fees, plan design and plan performance. BrightScope believes it possesses the most comprehensive database of 401k information in the country. The company leverages this database to provide plan sponsors, advisers and participants with accurate and high quality data to help them make more informed decisions."

It also realizes that the cost passed on to you in the form of fees is not readily available to you and therefore must be garnered from the overall return of the investment. This is also up for regulatory change.

The company also makes some assumptions when it applies its magic to your plan. It grabs an average employee, someone who is a "44-year-old, gender-neutral individual, earning an income of $44,000 a year, with a starting account balance of $40,000". From there, it acknowledges that each plan offers different company contributions, its own set of fees (generated by the large variety of plan sponsors, banks, mutual fund families , insurance companies, etc.), what is offered in the plan and whether the investment menu quality is adequate enough to provide growth opportunities, and how soon the employee may begin to use the plan (vesting schedules). These are, to say the least, unique to each company.

After determining what the company calls the "retirement goal line", a calculation that uses actuarial tables and assumptions of how long it will take the employee to get to retirement, BrightScope then runs a simulation, thousands of them. The better the plan, the quicker the plan participant gets to retirement, the higher the rating the plan gets on a scale of 1-100.

A Step in the Right Direction
It is no easy job being a plan fiduciary. BrightScope offers some much needed assistance with the task. Understanding that the responsibilities are many, including the need to act solely in the interest of plan participants and their beneficiaries, focusing their efforts towards the "exclusive purpose of providing benefits to them" is not as easy as it sounds. Not all companies have the personnel to achieve this sort of understanding.

Many times, the task of due prudence when overseeing these plans. the ability to follow all of the documents associated with the plan, being able to determine whether the underlying investments in the plan are diversified enough and cost effective (remember the fees are net of returns), is not always within the purview of the department responsible.

While you do have the right to request all of this information yourself and you can challenge the plan as being inadequate for your needs, BrightScope makes it easier to illustrate the problem. many companies believe they have done right for their employees. They may not know otherwise.

Check out your plan here.

Paul Petillo is the Managing Editor of and a concerned Boomer.

Social Networking.

Social Networking are being taken over by seniors and baby boomers.

I predicted 10+ years ago that Social Networking will be the next big thing.
I have several web sites and groups. My main site is I bought a profile package for my main site and it creates member profile which allows member to add their own photo, create their own mini blog, add their favorite friends and email to each other.

I asked the programmer that I bought the Profile Pro software to perhaps concentrat in creating a social networking software package. I would have love to have my Profile for my members to become a social networking site for baby boomers.

The programmer told me that he is too busy making software that he plans to sell in a box.

10 years later, Google Myspace and Facebook founders are all millionaires. I still dont have a good Profile software for my site lol