Now that the summer heat has eased, it may be time to put the heat on your company's 401(k) plan. Taking a hard look at your 401(k) or other...
Now that the summer heat has eased, it may be time to put the heat on your company’s 401(k) plan.
Taking a hard look at your 401(k) or other retirement-savings plan after Labor Day is worthwhile, especially if your plan’s funds failed to keep up with indexes of most listed U.S. stocks and bonds.
There’s plenty you can do to pressure your employer to improve your 401(k), provided you are organized, informed and know the right questions to ask.
Taking action is important because most Americans are not saving enough or getting adequate returns in their savings plans to cover retirement.
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“The national 401(k) system is a total failure,” said Frank Armstrong, a Miami-based financial planner who regularly represents employees who want to improve lousy 401(k)s.
“There’s generally not enough diversification (in the plans), they are underutilized and the fees are obscene.”
Signs of a bad plan
It’s easy to tell if your plan isn’t performing well. At the very least, you should be earning close to the average returns of the stock and bond markets.
Because employees are being gouged by expensive funds within a plan, commissions and bad management, many plans may be falling short of these benchmarks.
One immediate trouble spot is a plan sold by a brokerage house or insurance company.
Because of layers of commissions and high fees, these tend to be more than twice as expensive as funds provided by no-load firms that eschew sales charges.
On top of the high fees, brokers sometimes earn additional, often undisclosed fees for recommending funds within a plan, a practice that regulators are considering banning.
And if a broker loads a plan with its own proprietary funds that it manages in-house instead of lower-cost, generic index funds, poor performance is almost guaranteed because the returns are usually low and the fees high.
How can you tell if your 401(k) funds are keeping up with a minimum standard of performance? Compare them to an appropriate benchmark or index fund.
One broad-based index fund is the Vanguard Total Stock Market Index VIPERS (VTI), a basket of more than 6,000 U.S.-listed stocks. This has had a total return of almost 2 percent this year, as of Aug. 24.
For U.S. bonds, use the Lehman Brothers U.S. Aggregate Bond Index. A good proxy for this index is the Ishares Lehman Aggregate Bond Fund (AGG), which also has returned about 2 percent.
Non-U.S. stocks can be compared to the iShares MSCI EAFE exchange-traded index fund (EFA), up 3 percent. For commercial real-estate funds, the Vanguard REIT VIPERS (VNQ) is worth checking; it climbed 8 percent.
It’s also worth checking costs. Ideally, you should pay no more than 0.25 percent per fund, which should be passively managed to reflect an index. Including other administrative expenses, 0.58 percent per fund is considered reasonable by the Retirement Portfolio Cost Barometer of Invesmart, a Pittsburgh-based retirement-services firm.
“Better plans cost less,” Armstrong said.
Your employer’s 401(k) administrator can tell you how much you spend on mutual funds in your plan. Here are some questions you shouldn’t be afraid to ask:
How much is your account being charged for total administration, fund management, brokerage commissions and any undisclosed revenue-sharing fees?
How are your 401(k)’s funds performing relative to funds in a similar category or peer group? If they are consistent losers, you need to alert your employer and demand changes.
Ask about individual fund turnover. This is difficult information to find because it’s buried in fund prospectuses.
The more turnover, the less money you make because trading expenses are deducted from your total return. The most efficient funds have less than 50 percent turnover.
Mike Francis, a registered investment adviser with Francis Investment Counsel in Hartland, Wis., said your plan’s administrator should have policies on how it selects, monitors and terminates funds.
Every 401(k) should have an investment-policy statement that outlines objectives for the plan. As part of that statement, your employer should have guidelines on what might force a mutual fund to be dropped from your plan.
“How bad does fund performance have to be before a fund is dropped?” Francis asked. “One standard is that the fund is consistently below median performance in a peer group.”
If you spot poor performers in your plan, “put your concerns in writing” and forward them to your retirement-plan committee or trustees, Francis suggested.
Power in numbers
There’s power in numbers. Meet with co-workers to discuss your plan’s returns.
If performance is dismal, share your dissatisfaction, form a committee and sign a petition.
Then ask your 401(k) administrator, chief financial officer or trustee to conduct an independent audit to see if the plan’s returns can be improved by lowering costs with new funds. Your administrator or trustee may not know the answers to your questions or even respond, yet there’s always a good reason to press on.
It’s your employer’s legal obligation to provide the most diversified, best-performing plan at the lowest cost.
There’s another reason for management to purge lousy funds: Its retirement money is in the plan, too.