Noise of an impending recession escalated last summer when the yield curve inverted. The attention is understandable, as the curve has inverted nine times since 1962, and all but two of those instances preceded a recession. Given this key economic indicator, individuals are reconsidering their investment strategies, especially concerning 401(k) accounts, where most Americans hold their life savings.
In the event of an economic downturn, what should you do (or NOT do) with your 401(k) plan?
- DO - Re-Evaluate Your Risk Profile – Speak with an advisor about your asset allocation. How much of your portfolio is allocated to equities versus fixed income? Is the account invested too aggressively given your goals and time horizon? Now is the time, prior to any major market corrections, to make sure you are invested appropriately. One way to start determining your ideal asset allocation is by trying Smart Asset’s Risk Tolerance Calculator.
- DO - Diversify - Investors should be cognizant of diversification. When we reference the “market” above, in relation to America’s GDP and economic outlook, we refer to one asset class – the domestic stock market. Truly diversified portfolios are comprised of many asset classes that may react differently. In fact, this is the primary reason advisors generally recommend a diversified portfolio. While proper diversification cannot ensure a profit or protect against a loss, diversification is one of the primary ways to mitigate risk in a portfolio.
- DON’T Try to Time the Market – Once you determine you are invested appropriately for your risk tolerance level, it is important to stay the course. The primary rule of finance is to “buy low and sell high.” It makes perfect sense in theory but can be very difficult to follow in practice. Investors don’t want to sell their outperforming funds and buy more underperformers. A paper published by Willis Investment Counsel late last year found that investors lose 1 to 2% annually by attempting to time the market.
- DON’T Stop or Lower Your Contributions – If you are regularly investing in a 401(k), you are a “buyer.” While a market downturn can be scary, your contributions are actually going further. For example, a $200 contribution during a market downturn may buy more share than the same contribution would during an upturn. Principal’s easy-to-use Retirement Wellness Planner can show how your account can grow in response to different changes over time.
- DO - Set Up Automatic Rebalancing – Most retirement plan platforms allow you to opt to automatically rebalance your portfolio. Once you establish your desired investment allocation, this is a great way to regularly rebalance back to your original plan. Most investment professionals recommend rebalancing your portfolio once or twice per year. Occasionally, a quarterly rebalance is recommended during a particularly volatile market cycle. For more information on the value of rebalancing, watch this video.
Jeanne J. Fisher is a CFP® professional and Managing Director of Strategic Retirement Partners in Nashville, TN