August 21, 2023 – Navigating the financial world can often seem overwhelming, but fear not! In this episode of the Financial Sense Newshour, hosts Jim and Chris Puplava simplify it to its bare essentials. With a focus on 401(K)'s - a major asset in an individual's financial portfolio, the episode titled 'The Lifetime Planning Guide - A Comprehensive Approach towards Managing Your 401(K)' aims to equip the listeners with tools to maximize their 401(k) benefits. From understanding various integral components of 401(K) programs, reconsidering asset allocation mix to age-centered investment strategies, this episode undertakes a comprehensive exploration of all-things 401(K).
Simultaneously, managing 401(K) plans is not just about maximization, it's also about smart utilization. Jim and Chris discuss the crucial financial maneuvers that can aid in performance review, managing expenses and offering insights for bettering your 401(K) plans. Lastly, the episode broaches the often-overlooked aspect of employer's fiduciary responsibility, key tips for market timing, and the practice of dollar-cost averaging. Tune in to gain valuable insights and clear the haze around financial planning.
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00:00:04: Introduction to the financial sense lifetime planning program
00:00:16: Topic Introduction - Working with 401K
00:00:44: Discussing the importance of 401K plans
00:01:18: Need for different asset allocation in today's environment
00:01:38: Goldman Sachs's strategy regarding stock-bond portfolio
00:02:23: Fixed income options in a typical 401K plan
00:02:52: Rules related to 401K from the government and the Labor Department
00:04:14: Importance of a wide mix of different asset classes
00:04:38: Age-based investing strategy considerations
00:06:28: Explanation of the Dollar cost averaging strategy
00:07:44: Liability of employers with their 401K program
00:09:42: Frequency of 401K plan review
00:10:02: The need for employee education about investment and risks
00:11:12: Matching contributions and fiduciary responsibilities
00:11:52: Responsibility of Plan Administrator - Expenses, Guidelines and Performance
00:12:16: Liabilities and lawsuits related to investment funds
00:12:59: Need for review and refresh of the 401k lineup
00:14:14: Impact of Inflation on investments
00:15:09: Importance of controlling expense ratio and tracking performance
00:15:45: Services provided for 401k plans
00:16:58: Changing market dynamics and asset mixes
00:17:57: Closing words and contact information
Jim Puplava: Welcome to this week's lifetime planning. Today we're going to talk about one of the most important assets that you have next to your home is probably your 401. You may be participating in a 401K plan or work, or you may own a business that offers a employees well. There's all kinds of rules and regulations when it comes to 401, just like anything else. And that's what we're going to apprise you of today.
Jim Puplava: We're going to discuss what is important in 401K plans. We'll talk about investing and what you need to know about this most important asset. Joining me on the program is Chris Puplava, our chief investment officer. Chris, let's talk about when you look at most standard 401K programs, you have a few bond funds, you have different equity funds, large cap, small cap, mid cap, maybe some international funds. That's pretty much the standard lineup that you'll find in most company 401K plans.
Jim Puplava: But in the environment that we're operating in today, we need a different asset allocation mix. Let's talk about that.
Chris Puplava: You're absolutely right. One of the things that Goldman Sachs' strategy group has discussed is a potential lost decade for the balanced 60 40 stock bond portfolio. And they said that the traditional 60 40 may need to be replaced with a 60% stock 40% cash, meaning that you're likely to do better in cash when interest rates are rising, even though you may have a negative real return when you factor in inflation. But for me, I do think that a lot of 401 KS are not prepared for a rise interest rate environment, given we haven't had to worry about that since the 1970s. We basically had 40 years of secular decline in interest rates.
Chris Puplava: And so when I look at lineups for 401 KS, a lot of them just have the generic benchmarks and long term and intermediate term bonds and aggregate indices. But I don't see floating rate bonds or I don't see short term bonds or even foreign bonds. A lot of times when inflation is high here in the US. It's typically because of a weak dollar. And so sometimes you can hedge yourself with emerging market debt, which is basically non dollar denominated bonds and they tend to do well when the dollar is weak.
Chris Puplava: So I fear that there's a lack of options when it comes to fixed income in the typical 401K plan.
Jim Puplava: So when you take a look at this and there's also other rules that we have seen come in as it applies to 401K, especially from the government and the Labor Department. Let's talk about some of the other important things that employers need to be made aware of. That is not only to offer a wide diversification mix of the type of investments participants can take part in, but also expense ratios and other things that can eat up quite a bit of funds performance let's talk about expenses and other things that now apply coming from the Labor Department.
Chris Puplava: That's correct. A lot of times you'll see mutual funds with expense ratios over 1%. When you add in a potential advisory fee plus the third party administrator fees, you can see plans that have a total cost of north of 1%, easily as high as one and a half, or even two, depending on the selection of funds. So it really is important when you look at a lineup that there's plenty of options for both equities, fixed income and even commodities. Commodities are a great hedge against periods of rising inflation.
Chris Puplava: So having the option to invest some of your capital towards commodities in a 401K is one way to protect yourself against rising interest rates and rising inflation.
Jim Puplava: And let's also talk about in addition to having a wide mix of different asset classes, whether it's commodities, bonds, international, different value stocks versus growth stocks. But let's talk about age investing because obviously, let's say I'm just out of college, I'm starting a job, I'm 25 years old, I'm starting out my career. How I should be investing at age 25 is going to be a lot different than how I should be investing at age 55.
Chris Puplava: In general, when you're young, you've got time on your side, meaning that if you suffer a significant loss from a bear market, you've got time to rebuild and recoup. But when you get closer to retirement, time is not on your side. You don't have the ability to make up lost returns from a bear market. And so typically when you're in things like target date funds, that over time, as you get closer to your retirement age, you're shifting out of stocks and into bonds. While again, that's worked fine when interest rates were falling, I believe we're going to be in a period of rising interest rates.
Chris Puplava: And so shifting more and more into an asset that is likely to see declines as interest rates rise also bears risk. And that's where I think we're really heading into a very difficult period, especially for retirees, when they typically are hiding in bonds as they get closer to or in retirement. And that may not provide them the same level of return that it has in the last few decades.
Jim Puplava: Well, I mean, just take a look at the current yield. Even corporate bonds and even junk bonds are yielding less than what I can get in, let's say, some of the blue chip Dow stocks.
Chris Puplava: The other thing that's nice about blue chip dividend paying stocks is often at times the growth of that dividend yield is above the rate of inflation. So if inflation is running at 2% and you've got a 2% dividend yield, you'd like to see that yield grow higher than the rate of inflation. Otherwise you're going to fall behind. And so it is important to look not just at yield, but also the growth of that yield, which is equally as important.
Jim Puplava: What about the issue, Chris, of trying to time the market? I have never met somebody that's very successful, timing the market in and know, getting out at the top, getting in at the bottom. And let's talk about this strategy of just what dollar cost averaging means for your average investor.
Chris Puplava: Dollar cost averaging means that when the market is declining, you're buying more shares and so you're buying more. Essentially buy low, sell high, you're not selling high, you're just buying less shares. So you get more bang for buck when the market's declining, setting yourself up to accumulate shares as the market goes back up. So that is one of the strategies during a bear market versus trying to time it and selling, because if you're doing dollar cost averaging again, you're getting more bang for your dollar. When you're buying on a declining market, you're buying more shares.
Chris Puplava: So that's more of a better proven strategy than trying to time to get out of the market thinking that you're going to buy back in at the bottom. That typically is a feat that is very hard to do, particularly repeatedly. And so often at times, as you suggest, dollar cost averaging tends to be the better strategy during bear markets.
Jim Puplava: Let's talk about this from the perspective of an employer, let's say a medium sized business, small sized business. Let's talk about the liability that employers have with their 401K program. Most employers don't realize that they could be liable depending on how their plan is set up, the fees that participants have to pay, and the investment options.
Chris Puplava: The two most common reasons for an ERISA related lawsuit involving 401 KS is, number one, typically high fees, where a lot of the mutual funds within a 401K lineup may have an expense ratio well north of 1%. The second cause is performance. So you can have a mutual fund that has an acceptable expense ratio, but when you stack it compared to its peers in the same group, its performance may be incredibly subpar. And so those are typically the two things to keep an eye out. And one is that's important for 401K fiduciaries is to review the performance of their lineup to make sure that they don't have persistently underperforming funds, as well as that the funds they do have the lowest possible expense ratio.
Chris Puplava: So that's something that we do for our clients, that we are listed as the advisor on the plan. That's something we do repeatedly is screening all of the funds in the lineup compared to their peer groups. How are they performing on a one year, three year, five year basis? And then also are there any new funds that are out there, or often at times with this race to zero, you can find an identical fund, especially if it's passive, that may have a lower expense ratio than when you last reviewed, because there's constantly this fight of lowering expense ratios to garner more assets. So it's very important that the 401K fiduciaries, whether they do it themselves or hire an outside advisor on the plan to do that for them, do take the responsibility seriously to make sure that they have a well rounded lineup, that the expense ratios are low and the performance is acceptable.
Jim Puplava: And how often should these be reviewed? I mean, most of us, you file your tax return once a year. How often should all these requirements be reviewed by, let's say, a plan administrator?
Chris Puplava: At a minimum, annually. But ideally more often than that for the plans that we are listed as the advisor, we do that report quarterly.
Jim Puplava: And what about the idea about education? In other words, informing your employees about some of the risks, some of the opportunities? So they really understand the investment marketplace, because for many people, Chris, next to their home, their 401K will be their biggest asset when they head into retirement.
Chris Puplava: That's correct. Having a proper allocation is very important to make sure that they have good returns going into and in retirement. And so being up to date on the markets, understanding if there's a big sell off and the markets are depressed, maybe it makes sense to take on a little bit more risk versus when markets are at all time highs, valuations are high, maybe it makes sense to take a dial back the risk a little bit. So staying abreast of the market and economic trends is really important, particularly as you get closer and closer to retirement.
Jim Puplava: One of the things, as we've just been covering, Chris, you talk about fiduciary obligations and responsibilities, and that really falls back to the employer. And so a lot of these laws that Risa has put in, it's great that you offer a 401K plan. Your employees probably like that they get a tax deduction. Many companies do matching contributions. But the other issue that really comes up is the responsibility and the fiduciary responsibility of the employer.
Jim Puplava: It's not just enough that you offer a 401K plan. You have to follow all the guidelines to make sure, as we've been covering in this discussion, that the funds that you're using have low expense ratios, not very high, or that the performance of these funds, they get reviewed periodically. Maybe you have to trim one. Maybe the mutual fund company, the manager that created the performance is left. And so the performance isn't there.
Jim Puplava: So it's not just enough to set up a plan. It's an obligation on part of the plan administrator to make sure you're following all these guidelines, whether it's expense ratios, it's performance, and then educating your employees. And can you give an example, Chris, of some of the liability issues that would come up for an employer and where some of these enrisa lawsuits have taken place and what were the cause behind them?
Chris Puplava: A lot of it, again, has to do with poor, you know, it's mutual funds in a certain area, whether it's foreign stocks or a growth fund or a value fund that significantly underperforms its peers and benchmark, that's typically one of the areas where you'd see lawsuits arise as well as just simply high expense ratios. I mean, with this race to zero in ETFs and low cost funds from all the major providers like Vanguard and BlackRock and State Street and even Schwab, there's really no excuse to have a plan with an expense ratio north of 50 basis points, certainly not more than 1%. And unfortunately, that is common. And I think a lot of that has to do with Fiduciaries not doing their annual review, seeing what other low cost funds are out there, basically, of just launching the 401k lineup when the 401k officially goes live and leaving it there as status quo and not doing their due diligence and reviewing their funds and taking some out that aren't performing well and are high cost and replacing them with better alternatives.
Jim Puplava: People don't realize how much expenses can add up. So if you're taking a look at a 401 program, I've seen, Chris, for some employers where the expense ratios are closer to 2%. When you take a look at twelve B, one trailers, all the other things that are tacked on and added on in terms of fees. So this can add up and really reduce your rate of return. You think of, let's say long term, the stock market returns 10%.
Jim Puplava: Well if you're paying half a percent or less. So your rate of return over the long run is nine and a half. But think of what the difference would be if you're paying one, one and a half percent on something longer term, what the impact would be towards retirement and reducing the amount of money you're going to have available.
Chris Puplava: You're absolutely right. I mean, you always want to try to reduce the headwinds as much as possible. So for example, I think the difficult thing that investors are going to have this coming decade is the headwind of inflation. High inflation is going to eat into your real returns and you basically are going to be on our treadmill. You're going to have to try to run ahead and stay ahead of inflation when it really isn't something that you had to worry about 10-20 years ago.
Chris Puplava: In addition to that, if you throw in a high expense ratio, you're just increasing your hurdle rate. So if you've got an inflation rate of 4%, you throw in a 1% management fee, you basically have to earn more than 5% just to break even. So you really can't control inflation. You can hedge it through your investments, which is smart, but what you have to do is control what you can, such as reducing your expense ratio as much as possible. That is certainly within someone's control versus the direction of interest rates or investment returns.
Chris Puplava: Controlling the expense ratio is something that is very easy to do, as well as making sure that the lineup that you have does have good performance, that if a growth benchmark is up 10% for the year and yours is only up seven, that's a lot of performance that you're living on the table. So you definitely want to make sure that the funds you have are holding up as well as your expenses are as low as possible. Control what you can and do the best with the market environment.
Jim Puplava: And as we close, Chris, why don't you describe for listeners some of the services that we provide for 401K plans?
Chris Puplava: Well, what we can do is be listed as the advisor because a lot of company executives, their main job is running a firm, not screen their lineup, check performance, check expense ratios, making sure that their lineup is complete, that it's covering all the major categories. And so that's where an advisor is brought on, typically with the area of expertise to perform those functions and basically protect the company and the plant from ERISA lawsuits. You never want to get into that. It's a lose-lose situation for employees and employers. So that's partly what we can do is help to alleviate that concern, to make sure that the due diligence is being performed, that the lineup is low a cost as possible, the funds are performing in line with their benchmarks, and that there's no holes to plug in the lineup again.
Chris Puplava: One of the things that I've seen when I've been reviewing plans is the real risk of a rise in real interest rates, that you don't have the options available on the fixed income side to protect employees from a rise in interest rates and a rise in inflation. It's very rare that I'll see a lineup that has commodity investments that employees.
Jim Puplava: Can select from and people don't realize. For almost half a century. If you were in the bond market, that 60 40 mix worked. Because if the stock market went through a major bear market like it did a short term last year where the markets lost a little over 30% in a short period of time, bonds would offset the losses that you had in stocks. But that may not be working going forward as interest rates rise.
Jim Puplava: So the asset mix is going to have to change. Chris, as we close, if people would like to get in touch with our 401K services, tell them how they could do so, please.
Chris Puplava: They can reach out to me directly. It's chris[dot]puplava[at]financialsense[dot]com. Or they can give us a call at 888-486-3939.
Jim Puplava: All right, well, thanks so much for being on the program today. And to you, our listener, thanks for listening. We hope you found this helpful.