Why Is My 401k Losing Money?

A declining 401(k) balance can be concerning. This article clarifies why 401(k) accounts may experience losses and outlines fundamental aspects to consider during such declines. Understanding these factors provides perspective during market fluctuation.

Market Influence on 401k Performance

A 401(k) is invested in financial markets like stocks, bonds, and mutual funds. Their performance is directly influenced by economic conditions and market cycles. For instance, recessions often decrease stock prices, affecting equity-heavy 401(k) portfolios.

Economic cycles (expansion, peak, contraction, trough) present opportunities and challenges for investments. Factors like inflation, interest rate changes, and geopolitical events can trigger market volatility. Volatility is a normal part of investing, making periods of decline inherent. If the stock market experiences a substantial decline, stock-based funds in a 401(k) will also see their values fall.

Individual Investment Choices

Beyond market forces, individual investment choices within a 401(k) plan significantly impact its performance. Asset allocation, the mix of investment types like stocks, bonds, and cash equivalents, is key. A stock-heavy allocation carries more risk and fluctuation potential than a conservative one.

Diversification, spreading investments across industries or regions, helps manage risk by preventing overexposure. While it doesn’t prevent all losses during widespread downturns, it softens the impact of poor performance in one area by balancing it with others.

Specific funds chosen, such as target-date funds, index funds, or actively managed funds, also contribute. Target-date funds adjust allocation over time, becoming more conservative as retirement nears. Actively managed funds typically have higher expense ratios than index funds, which mirror a market index.

Understanding 401k Fees and Expenses

Fees and expenses also affect a 401(k)’s net return. These include administrative fees for plan management and record-keeping, and investment management fees (expense ratios) for funds. Fees are deducted from the account balance regardless of market performance.

Administrative fees can be a flat charge or a percentage of assets, like $50 per year or 0.25% to 0.5% of assets. Investment fees cover managing mutual funds or exchange-traded funds; for example, a 0.50% annual expense ratio means $50 is deducted per $10,000 invested.

While not the primary cause of market losses, fees consistently reduce total returns. Total costs for a 401(k) participant can range from approximately 0.5% to over 2% of plan assets annually, though many plans offer lower-cost funds. Information on fees is available in annual statements or plan documents.

Actions During Market Downturns

When a 401(k) is experiencing losses, it is important to maintain a long-term perspective, as these accounts are typically intended for retirement decades away. Short-term market fluctuations are common and a normal part of the investment landscape. Impulsive or emotional decisions, such as selling investments during a downturn, can lead to missing out on subsequent market recoveries.

Continuing regular contributions during a market downturn can be a beneficial strategy. This approach, often referred to as dollar-cost averaging, involves investing a fixed amount of money at regular intervals regardless of market prices. When prices are lower, your fixed contribution buys more shares, which can potentially lead to greater gains when the market recovers. This systematic investing helps to reduce the impact of market volatility over time.

Reviewing one’s existing asset allocation can also be a thoughtful step to ensure it aligns with long-term goals and current risk tolerance. This does not necessarily mean making drastic changes but rather confirming that the mix of stocks, bonds, and other assets remains appropriate for your stage of life. Periodically rebalancing a portfolio, which involves adjusting holdings to maintain a target asset allocation, can help keep the investment strategy aligned with personal objectives. This process might involve selling some assets that have grown to become a larger portion of the portfolio and buying more of those that have lagged, bringing the portfolio back to its intended risk level.