Monday, April 12, 2010

Is it Worth "Tuning Up" Your 401k?

I'm currently offering a special where I analyze a client's 401k plan and develop an optimized portfolio utilizing the investment choices offered. In most cases, the cost of this service will be $250. Some might wonder "wouldn't I be better off simply investing that $250?" or "can you really improve my portfolio enough to justify the $250 fee?"

First, do you know your 401k's current allocation between stocks, bonds, and cash? Most people don't. Study after study indicates having an appropriate asset allocation is the most important factor in determining investment success. If you have a portfolio that consists of a proportion of stocks to bonds that is too low or high relative to your risk tolerance, you will consistently be unhappy with your obtained return or losing sleep because your nest egg is declining faster than you can handle. Analyzing and identifying your risk tolerance is included with the $250 fee, as is determining the asset allocation of your current portfolio, as well as developing a stocks/bonds/cash mix that matches your needs.

Second, ensuring your 401k is adequately diversified is also part of the process. I'll make sure you are investing in not only large cap stocks, but mid caps, small caps, and international stocks as well. To the best of our ability, I'll make sure you also have exposure to not just corporate bonds, but government and international bonds. Of course, I'll determine the highest performing investment option in each asset category, and identify the percentage of your portfolio that should be placed into each portion of the diversification chart.

Third, do you know the costs of each investment option within your 401k? Again, most people don't. My process identifies the expense ratio of each mutual fund in your 401k. After all, investing in a fund that is producing high returns doesn't do any good if the fund is charging a fee that consumes half the return.

So back to the original question: is all this worth $250? Let's take a hypothetical client, John, make some assumptions, and see if he is ultimately happy with his decision to tune-up his 401k. John is 50 years old, has $100,000 invested in his 401k, and intends to contribute $10,000 per year until retiring at age 65. He thinks he will live until age 95, and wants to know how much his 401k is going to allow him to spend annually until death. Lastly, we'll assume inflation of 3%, and that John currently has a portfolio that will generate an 8% return annually. With these assumptions, John would be able to withdraw the inflation-adjusted equivalent of $26,654 per year from his 401k between ages 65 and 95.

Now, let's assume John pays $250 to tune-up his 401k, and consequently, is able to add 1% to his annualized return, either by enhancing his investments' performance, or by reducing the cost of his portfolio. A 9% annual return would enable John to withdraw the inflation-adjusted equivalent of $33,087 per year from his nest egg between ages 65 and 95. That is $6,433 more EACH AND EVERY YEAR! I think it would be safe to assume John was happy with his decision to supercharge his 401k.

Another way to look at is asking what rate of return John achieved on his investment. A $250 investment that yielded $6,433 of income for 30 years achieved a rate of return of 2,573%. Do you know any other investments that offer that type of return?

This article was written by Lon Jefferies of Net Worth Advisory Group. Learn more about Net Worth Advisory Group at and visit Lon's blog at

No comments: