------------------------------------------------------------------------------------------------------------------------
Welcome to My Personal Finance Journey! If you are new here, please read the "About" or "First-Time Visitor" pages to find out more about us. If you would like to receive free updates on articles like this by email, then sign up here or you can subscribe to the RSS feed. Also, check us out on Twitter or Facebook. Thanks for visiting! Keep on learning!
------------------------------------------------------------------------------------------------------------------------
Happy Friday everyone!
Yesterday, I received the following great question/message from a reader about the recent market downturn we have experienced:
Considering the current plight of the stock market, do you still recommend for 20-somethings to max-out contributions to their 401k retirement accounts? Or, should they invest in a high-interest cash savings account instead?
I am a 29-year-old with a lifecycle mutual fund with Fidelity and just lost $2,000 in the past two days and am wondering what to do. Thanks for your help!
Reader Financial Details:
- Already has adequate medical, dental, and vision insurance.
- Has 6-9 months worth of living expenses in a cash savings emergency fund.
- Employer does not match 401k contributions.
- Currently maxes out 401k with 100% of contributions going to the Fidelity 2050 Freedom Lifecycle Fund.
- Does not have an IRA.
- Is currently satisfied with the asset allocation offered by Fidelity through the 2050 Freedom Fund. Also prefers the "hands off" approach offered by lifecycle funds.
How would you advise this reader to proceed? Please share your insight by commenting below!
Below is my take on how the reader should proceed.
"Target retirement funds are a good thing to have if you want a “hands off” approach to investing, which is probably best for a lot of people! So, good job on that part.
Now that the market’s already gone down, now is not the time to sell stock holdings and contribute to a cash account. Let’s just nail that down right off the bat.
However, the answer to your question goes a little deeper than what to do ONLY at this instance as a result of the past two weeks. It centers on your overall investing approach. If you’ve followed the steps below, you should not have to worry about changing your contributions to your 401k based on ups and downs in the market since your asset allocation will take care of this naturally.
Step 1: Follow the My Personal Finance Journey account hierarchy order to make sure you have health insurance and a proper emergency fund BEFORE contributing large amounts to your 401k, which you've already done. Nice work!
Step 2: Follow my 6 step program to creating your personal investment strategy. A very important part of this is forecasting your cash needs and ability to sleep at night with fluctuations in the stock market in the future in order to determine your appropriate fixed income asset allocation level.
Once you determine this, you can then implement this fixed income (stable investment) in your 401k investing. Personally, a fixed income % of 25% works well for me.
I just checked in to the Fidelity Freedom 2050 fund, and it carries about 22% fixed income securities.
You have to figure out FOR YOUR SPECIFIC SITUATION (using the posting series above) if 22% is sufficiently stable for you to be able to sleep at night. However, off the top of my head, if you are in your late 20’s, you are most likely on the right track with that Fidelity Freedom Fund – just make sure in the future that you can sleep at night with that allocation.
However, since your employer does not offer matching funds for 401k contributions, it is a better idea to first fully fund an IRA (and most likely a Roth IRA since the reader is only 29 years old) before maxing out your 401k each year. This is due to the fact that IRA's (especially ones from Vanguard) offer more mutual funds options and also often lower fees on mutual fund expense ratios."
To summarize, below is how I think the reader should proceed:
1) Do not start contributing to a high yield cash savings account.
2) Open up a Roth IRA with Vanguard. Fully fund it before beginning to contribute to your 401k and invest in low cost index mutual funds or Vanguard Lifecycle Funds (similar to the ones offered by Fidelity). Or, you can fund the two accounts concurrently if you are confident you can fully fund the Roth IRA before the end of the year. Opening an IRA is better than an individual taxable account because you can invest in the same mutual funds offered by Vanguard, except that IRA are tax-privileged, saving you money in the long run.
3) Each year as you age, re-evaluate your asset allocation and ensure that you can "sleep at night" with the level of risk you (equity investments) you decide to go with.
Important Legal Disclosure: I am not a financial professional, and this does not constitute professional financial advice. Before acting on any ideas proposed here, you should consult your financial professional.
To summarize, below is how I think the reader should proceed:
1) Do not start contributing to a high yield cash savings account.
2) Open up a Roth IRA with Vanguard. Fully fund it before beginning to contribute to your 401k and invest in low cost index mutual funds or Vanguard Lifecycle Funds (similar to the ones offered by Fidelity). Or, you can fund the two accounts concurrently if you are confident you can fully fund the Roth IRA before the end of the year. Opening an IRA is better than an individual taxable account because you can invest in the same mutual funds offered by Vanguard, except that IRA are tax-privileged, saving you money in the long run.
3) Each year as you age, re-evaluate your asset allocation and ensure that you can "sleep at night" with the level of risk you (equity investments) you decide to go with.
Important Legal Disclosure: I am not a financial professional, and this does not constitute professional financial advice. Before acting on any ideas proposed here, you should consult your financial professional.
