At GranitPath the most frequent line of questioning we face when talking to plan participants is regarding allocation within the plan. Many who utilize their company’s 401(k) don’t fully understand how they are invested or what their alternatives are within the plan. There are so many different options available that it is not fair to expect the common investor to fully understand each of them. There is far more to consider, which necessitates professional help, but let’s establish a foundational level of understanding to instill some confidence.
This is a term you will hear a lot in retirement planning. Your age and retirement date set the basis for how you will be invested. If you are young with no dreams of retiring in your 40’s, you have plenty of time to ride the ups and downs of market participation. Because of this long-term growth will be your priority. As you get closer to your desired retirement date, preservation becomes a greater priority. Late in the process some growth is still in play, but a market dip stands to do greater damage to your portfolio than it did before. If you don’t need the money anytime soon, you would want it to grow as much as possible over time. These portfolios typically would have a large portion invested in stocks and other equity devices. Conversely if you are approaching retirement more closely, a greater priority should be placed on investments that generate income to be spent in retirement. Things like bond funds and other debt related devices accomplish this with varying degrees of risk.
The end goal is for your retirement benefit to be there when you need it, but how it gets there along the way has a lot to do with your personal preferences also. Some individuals are simply more tolerant to risk than others. Whether you need income or growth, as mentioned above, there are a multitude of different asset classes to choose from with varying degrees of risk. With greater risk comes greater potential returns, the complicated part is blending this with your time horizon. For example, a young person is looking for large long-term growth but what if they are uncomfortable with aggressive investments? A bond portfolio would satisfy their risk tolerance, but generate income rather than long term growth. A Large Cap Growth fund would be an equity investment, focused in large companies that tend to be more stable. Similarly, an older investor looking for more risk would seem counterintuitive, but an option like investment grade bonds could satisfy their needs.
As you can see there is such a vast world of investment possibilities that professional help is often recommended. Talk to your HR department about what resources are available to you. While it is only the very tip of the investment iceberg, this knowledge can help you at the very least know how to determine what you are looking for. At the end of the day saving in the wrong asset class is still better than not saving at all.