In this issue of the MaxOut Savings Report we will go over common problems in 401(k), 403(b), 457 and other qualified plans.   The credit crisis has caused huge damage to many 401(k) plans and setback many people’s retirement plans.  We have found, with some planning, your savings plan can be protected from future crises.  

As more companies are eliminating their pension plans and converting to a 401(k) or other qualified plans, it is forcing more employees to manage their own retirement plans.  It has been our experience that managing a 401(k) is not that difficult if many common mistakes are avoided. At MaxOut Savings Advisors, LLC we have found that your savings rate is the biggest contributor and determinant of a successful retirement plan. The next most important determinant is how you manage the assets in your plan.  Remember, a successful retirement now requires you to take charge of your retirement plan.  Successful management of your 401(k) requires a plan and avoiding these common mistakes. 

1. Failure to Participate.  This financial crisis is no reason to not be participating in your company savings plan.  If you quit participating in your savings plan you will never have a safe retirement. In some plans, fewer than 65% of the employees contribute anything to their 401(k) plan.  This is self explanatory; you will find it very difficult to retire successfully if you do not participate in your company’s 401(k) plan.  This is especially true now that many companies have eliminated pension plans and have replaced it with a 401(k) plan.  Some common reasons for not participating are not having enough money, saving for a house, or fear of the stock market.  There is never a good reason to not participate in your company plan.  If you cannot hit our goal of 10% plus a company match, then start at 5% and work your way up.  If you are worried about the stock markets, put all new money in a money market fund or stable demand option.

2. Not Saving Enough for Retirement.  Your savings rate is the single biggest determinant of a successful retirement plan.  What is your savings rate for your company plan?  Are you saving enough for retirement?  Our goal is to have everyone saving at least 10% of their income plus the company match for retirement.  If you are saving under 10% of your income, you should look at your retirement needs and run a calculation to see if there is a need to increase your savings rate.  Remember, even if one cannot get to the target savings level needed, every little bit helps.  If need be, increase your savings 1% at a time until you reach your target savings level.  If you are over 45 years old and are behind in savings, you should look to increase your savings rate to 15%.  We see many people saving 20% of their income to catch up as they get closer to retirement.

3. Not Collecting Free Money.  In most 401(k) plans, the company will match your contribution up to a certain percentage.  The match will typically be 50%-100% match up to a set point.  This is like getting a bonus 50%-100% return on your money; take advantage of the offer and collect all the “free money” offered.  The one caveat is that in many plans, there is a vesting clause that requires a certain length of service to the company.  Remember, at a minimum your savings rate should be at a level to collect 100% of that company match.

4. Failure to Asset Allocate.   The Debt Bubble should have taught most people this lesson.  Proper asset allocation is the hallmark of a good 401(k) plan.  We asset allocate to grow the portfolio and, at the same time, reduce risk.  We find that many investors overweight stocks and do not have a cash component to their investment strategy.  What saved many investors in this recent market collapse was increasing their cash weightings of their 401(k) plans.  In 2008, cash, or money funds, was one of the very few assets that outperformed and had positive returns.  There was a reason that we said cash would be king for 2008.  Remember, the football teams that go to the Super Bowl are often the ones with a good defense.  Defense wins championships and reduces risk in investment portfolios.  Your plan should have the proper mix of stocks, bonds, cash, and international assets prudent for your expected retirement time frame.  At MaxOut Savings Advisors, LLC we generally start with a 60% stock and 40% bond weighting and adjust the asset mix from there.  This mixture of assets reduces the risk that any one asset decline will wipe out your investment portfolio.

5. Overweight Company Stock or Industry.  The employees of Bear Stearns owned 30% of the company stock; after the firm collapsed within one week, many of them were wiped out.  The lesson learned from Enron was that it is dangerous to have too much company stock in your 401(k) plan.  We would recommend a maximum of 20% of your portfolio in the company stock.  This is higher than some recommend and takes into account the fact that some people want to have a vested interest in the growth of their firm.  In Houston, being an energy city, it is easy to overweight the oil industry stocks.  Still, this should be avoided; just look what happened in the technology industry.  The 401(k) plan should be rebalanced quarterly to prevent over allocation of your firm’s stock or industry.

6. Failure to Rebalance Plan.  A recent Fidelity Investments study of 401(k) plans found that 85% of the  participants failed to make any changes or rebalance there plans on an annual basis.  In these uncertain financial times you should review, rebalance and make any necessary changes on a quarterly basis.  With the big swings we have seen in the markets over the last six months, it is easy for your portfolio to become out of balance.  As an example, if you have a 70% stock / 30% bond portfolio and the stock portfolio drops 50% and the bonds stay even, your new weighting is 53% stock and 47% bonds.  This portfolio now needs to be rebalanced to your new target weighting.  Some questions to ask:

a. Are you over-weighted in any one asset class?
b. Do you have too much in company stock?
c. Do you need to have a more defensive portfolio given the times?
d. Should you add to any sector that looks promising or reduce any sector?
e. How is my bond weighting?
f. What is my international exposure?

Remember to rebalance your portfolio quarterly.

7. Annuity in your 401(k) or IRA rollover.   At MaxOut Savings Advisors, LLC we have more people come to us with annuities that they are unhappy with and cannot get out of than any other concern. Typically, annuities are sold by the broker to collect a commission and people do not realize that they cannot get out of the annuity for up to 10 years.  In some cases, the penalty to get out of the annuity early is 10%. As a policy, Fidelity Investments discourages investing in annuities in IRAs and most qualified plans.  Every situation is different; generally however, all you are doing by placing an annuity in an IRA or 401-k is increasing your fees.  Fees for an annuity can run over 3-4% vs .75-1.5% for mutual funds, stocks and bonds.   It is almost never a good idea to put an annuity in a qualified plan.

8. Using 401(k) Plan as a Bank.  Using your 401(k) as a bank is an easy trap to fall into. It is rarely a good idea to borrow or get a loan from your 401(k).  Your 401(k) is your last line of defense for retirement.  For most savers, our experience has been that finances are generally tight until they look up at retirement and have over $1 million in their company plan.  So do not touch your 401(k) plan until retirement and you will be grateful for the sacrifices you make now!

9. Forgetting to Rollover.  Often times changing jobs is stressful and hectic; we tend to not worry about the old 401(k) plan.  When you change jobs, there are 5 things you can do with your company plan:

a. Transfer Plan to new company plan
b. IRA Rollover and consolidate with your IRA
c. Annuitization
d. Cash out or take check
e. Leave it in the old plan

Once you are settled in the new firm, move the old plan over to your new firm or roll it over into an IRA.  An IRA Rollover is a good way to consolidate your old 401(k) and company plans.  Once the assets are consolidated in an IRA Rollover, they are much easier to manage.  An IRA Rollover can be set up at a bank, brokerage firm, or with an investment advisor.

10. Cashing Out at a Job Change.  The quickest way to wreck your savings program is to cash out of your old 401(k) when you change jobs.  In addition to ruining your savings, you will be taxed at ordinary income plus a 10% penalty.
 
11. Timing the Market.  It is rarely a good idea to time the stock market and very difficult to do successfully long term.  Stick to asset allocation and picking good quality mutual funds.  If you are concerned about the markets, raise cash in percentages.  This way you are not making all in or all out decisions that could “freeze” up your decision making. 

12. Too Aggressive or Too Conservative.  Over-weighting an investment could upset your investment portfolio if it were to go bad.  A lesson that should be learned is that, no matter how sure the investment appears, things can go wrong.   At the same time all cash does little good long-term for your portfolio.  Remember to work to achieve a balance with your investments.  Make sure that any one decision, if it goes wrong, does not hurt your overall savings plan.

13. Investing in the “Latest Fad” or Hot Mutual Fund.  Stay away from the hottest mutual funds or stocks.  Many investors get caught up in the latest investment fads.  Remember the Tech Bubble, Internet Bubble, or the Junk Bond craze?  These all ended with losses for investors.  After one or two years, it is very difficult to repeat hot sector performance.

14. Lacking an Investment Plan.  Most 401(k) investors have no 401(k) investment plan. Draw up an investment plan detailing percentage asset allocation, when to rebalance (quarterly) and maximum weightings in an asset class.   This can be as simple as something on the back of an envelope or as complex as you want to make it.  For example: 60% stocks, 40% bonds.

15. Have a Defensive Plan.  In recent MaxOut Savings Reports we talked about the Perfect Financial Storm and the need to build a castle for your investments.  As an example, set a stop loss at a certain price for an investment if it goes bad. A stop loss is a set order or mental stop you use to sell if an investment goes against you to prevent further losses.  You can set your stop losses at 10-20% or wherever you feel comfortable with.  It could be as simple as raising cash levels to 20% if you become worried about your plan investments.  The key here is to have a plan of some type and not freeze up like many did during the tech bubble collapse.

16. Lifestyle or Target Funds Know Your Risk. We are seeing a proliferation of lifestyle or target retirement funds. A “lifestyle fund” is a fund that manages the risk of your portfolio based on how far along the retirement path you are.  As you get closer to retirement, they try to reduce the risk, generally by buying bonds.  Many people have met with us and have found that they have large losses in their 401k plan because they invested in these funds and did not understand the risks involved in the fund or the investments it was making.  You cannot just turn your savings over to a “lifestyle fund” and count on them to protect your assets.  The key to using these funds is to understand what is in them.  What is the weighting of stock to bonds in the fund? Take a look at the write up on the fund and that will give you an idea.  Generally, the higher the bond component the more stable the fund.  We have found that some of these funds had too much exposure to high yield bonds that led to large losses in addition to stock fund losses in the portfolio. In addition, some funds overweight bonds as your retirement date approaches, forgetting that you have an average 25-year lifespan after retirement that you will need asset growth.  Bottom line: take a look at the target or lifestyle fund and know what they are investing in.

17. Goal 10% plus match.  The biggest mistake in a 401(k) plan is not setting a high enough savings goal.  According to a recent Fidelity Investments study of 401(k) plans, the average savings rate was 7.0% for 2006, this is too low.  For most people, your savings rate should be at least 10% plus the company match. 

Always remember the key to a successful retirement plan:
Save Aggressively and Invest Conservatively!

If you are having problems or concerns, it is a good idea to get some help.  A good place to start is with your company contact for the 401(k) program.  If they cannot help, they can point you in the right direction.

Retiring soon?  Now is the time to set up an appointment with MaxOut Savings Advisors, LLC.  At MaxOut Savings Advisors, LLC, we work every day managing investors’ 401(k), IRA Rollover and Trust accounts.  If you need help or would like MaxOut Savings Advisors, LLC to manage your accounts, I would be happy to meet with you.  Email us at ted@maxoutsavings.com or call us at 713-627-0400.

Printing Money: The March toward Inflation
The Federal Reserve made some major changes in the latest announcement from the meeting of the Federal Reserve Open Market Committee meeting last week.  They announced that they will buy $300 billion of long term Treasury bonds over time.   They also announced that they will purchase an additional $750 billion of mortgage securities to help homeowners refinance their mortgages at lower rates.  The $300 billion purchases of long term treasury bonds appears to be an attempt to drive long term interest rates lower.  This is a form of quantitative easing to loosen monetary conditions now that short term rates are almost at zero.  Several years ago, I participated in a radio interview with Robert Rubin, Former Secretary of the Treasury, in which he pointed out that the Federal Reserve and the Treasury could control short term interest rates, but the control of long term rates was much more problematic.  We do not believe that it is possible for the Federal Reserve to control long term rates for more than a short period of time.

Treasury Plan to Save Banks?
This week, the Treasury announced a $1 trillion plan to remove toxic assets (bad loans) from the banks’ balance sheets.  The program will consist of $100 billion in Treasury bank bailout funds and another $800 billion in lending from the Federal Reserve.  The Federal Reserve will lend the money to hedge funds and companies that buy the bad loans.  The Federal Reserve will get a guarantee from the FDIC backed by the Treasury if that makes you feel any better.  This is the first instance that we know of that speculators will be lent money by the Federal Reserve to make investments.  This brings the total new contribution from the Federal Reserve to $1.85 trillion that has been announced in the last two weeks.  To put this into prospective the Federal Reserve balance sheet in total was about $900 billion in September of 2008.  This is why we have seen the sharp move up in the stock market in the last ten days.  The Federal Reserve has made it clear that they intend to print money to get us out of this crisis.  In the future, this will be inflationary in 2010-2011.  This massive easing program by the Federal Reserve combined with runaway federal spending by Congress and the Obama Administration will result in inflation that could quickly get out of control over the next couple of years.  We believe that the Fed and the Obama Administration is in the process of starting to loose control of the spending, deficits and the money supply.  We would use this rally in the investment markets to position for much higher inflation over the longer term.

Little Progress on Deleveraging the Debt Bubble