What The Covid Pandemic Has Confirmed About 401(k) Investing
By Kyle Powers, CFP®, MBA, AIF
Director, 401(k) Advisory Services at The Fiduciary Group
Simply put, 2020 was unlike any year we’ve seen before. The Covid-19 pandemic changed life in countless ways, including how we work and interact with others.
Market volatility reflected that changing reality during the first half of the year. Widespread pessimism affected financial markets as countries went into lockdown. The S&P 500 index precipitously declined almost 35 percent in just over one month. No one truly knew how things would play out as the global economy had never been purposefully shut down.
The market bottomed in March 2020, and the S&P 500 ended the year with a 18 percent gain. Investors, particularly 401(k) participants, who maintained a long-term perspective were rewarded for their patience. After all, investing is a long-term effort. So, why 401(k) participants in particular? Because you continue to make contributions to your accounts in both up and down markets. The contributions made in the “bad” times are crucial for long-term growth.
At The Fiduciary Group, our 401(k) participant education meetings routinely stress the importance of determining an appropriate investment allocation strategy. This allocation between stocks and bonds is the biggest determinant of portfolio return and volatility. The purpose is to help our 401(k) participants stay the course through good markets, bad markets and everything in between. Even the best investments won’t perform for you if you panic sell when things go wrong.
Here are a few strategic suggestions about saving for retirement that have been confirmed by the pandemic:
Don’t attempt to time the market. Market timing involves two important decisions: when to sell and when to buy back in. However, consider how quick and precise you must be in order to truly benefit. In February 2020, the S&P 500 went from a new all-time high to losing more than 10 percent in two weeks. Following the March bottom, it rebounded 20 percent over the following two weeks, including multiple days of 10 percent up AND down. It would have been hard to feel comfortable deciding to reinvest under those circumstances. However, missing these two periods likely resulted in a lot of work with little or no savings. Waiting for the “dust to settle” often leads to even more missed opportunity.
Develop a strategy and stick to it. Your 401(k) provider or custodian should have tools such as a risk tolerance questionnaire to help you identify an asset allocation strategy that is appropriate. At a minimum, you should give careful consideration to your retirement time horizon and personal risk tolerance.
Identify your retirement time horizon. One of the biggest drivers of determining an appropriate retirement plan investment allocation is your time horizon. Those with retirement several decades away are able to assume more risk because they have the time to overcome short-term market volatility. Those who are closer to retirement or who have already retired should consider taking a more moderate or conservative approach since at least some of the funds will be needed sooner.
Evaluate your personal risk tolerance. While time horizon accounts for risk we are “able” to take, personal risk tolerance indicates the risk we are “willing” to take. Market declines make it difficult, psychologically, for some people to stick with their long-term investment strategy. Understanding and investing according to your risk tolerance will help manage the desire to sell assets in a down market, so you don’t lock in losses that might have otherwise been temporary.
Stay the course. Once an allocation has been chosen, stick with it and revisit periodically to account for changes in your time horizon. There are two exceptions, which may warrant additional change: (1) you discover you don’t have the personal risk tolerance you thought you had; and/or (2) your personal circumstances have changed, adjusting the time horizon for accessing the funds in your retirement account.
Market declines create opportunities for 401(k) participants. Seeing retirement account balances drop 30 percent is uncomfortable, but those who stayed the course in 2020 were rewarded with above average returns. Consider the fact that the S&P 500 grew almost 70 percent between the March market bottom and the end of 2020. With each payroll contribution to a 401(k) account during distressed and recovering markets, you are buying at discounted prices. That is why investing through down markets is critical to long-term investing success.
Save early and often to your retirement accounts. The key to planning for retirement in the age of Covid-19 is to be strategic in your planning and, above all, stay focused on long-term goals rather than short-term risks or rewards.
Kyle Powers, CFP®, MBA, AIF, is the director of 401(k) Advisory Services at The Fiduciary Group, with clients in Charleston, Columbia and Greenville, South Carolina. He can be reached at 912.447.6878 or [email protected]