Masters Series: Three Simple Tools to Boost Your 401(k) by Six Figures
Editor's note: If you're focused on generating safe streams of income, owning dividend-paying stocks is a must. But that isn't the only way to grow your wealth through the stock market...
In today's Masters Series – originally published in June in our free DailyWealth e-letter – Dr. David "Doc" Eifrig shares three tips to earning an extra six figures in your retirement account.
Whether you're already retired or simply planning for your retirement, today's essay is a must-read...
Three Simple Tools to Boost Your 401(k) by Six Figures
Investing for retirement is difficult...
Keeping a constant eye on the markets, studying economics, staying on top of every trend without a misstep... that's time-consuming and confusing.
Worse, a lack of guidance, poor websites, and limited investment options make most individuals' first foray into investing overwhelming.
But you can't hide from it. No one is going to rescue your retirement for you.
The good news is it doesn't have to be so tough. As you'll see below, there are just three keys to understanding your retirement account. Learn these, and you will truly change your quality of life in your retirement...
Let's get started...
There are only three things you need to think about to earn an extra six figures in your retirement plan...
- Asset allocation
- Low fees
- Index funds
Let's quickly cover asset allocation...
Asset allocation means how you divvy up your capital among several categories of assets. By taking a broad view of the possible asset classes to hold, you can meet your retirement goals. Changes in the market get smoothed out by the diversified nature of your portfolio... leaving you to sleep well at night.
The key is doing it from the start and sticking to it.
First, you set aside some cash for emergencies... Then, start with a simple allocation: Decide between stocks and bonds. If you have a longer-term view and a high tolerance for risk, you might make your allocation 80% stocks and 20% bonds. If you are closer to retirement and don't like volatile returns, you could do 30% stocks and 70% bonds.
Most of us fall somewhere in between those extremes. When starting off, I suggest using a "middle-of-the-fairway" asset-allocation plan: 60% stocks and 40% bonds. It ensures you will harness the proven wealth-building power of stocks... while also using the conservative, income-producing power of bonds.
The point is to combine assets, like stocks and bonds, which are not perfectly correlated (meaning their price movements are not closely related to each other). Blending them in a portfolio smoothes out your total returns.
As you get closer to retirement, you can adjust your allocation to match your risk tolerance. For example, you can use the "60/40" asset allocation while you are in your 40s, 50s, and 60s... and then start increasing your allocation to bonds when you reach your 70s.
Once you are comfortable with that basic stock-bond allocation, you can start to get more complex, dividing your categories among, say, domestic and international stocks. Or you can divide your bond allocation among corporate, federal, and municipal bonds. You can also add a small allocation to precious metals, or what I call "chaos hedges."
That's Step 1. With allocation, we've protected your portfolio from deep swings and ensured you'll have money until the end. Now, let's get into the nitty-gritty of fixing your retirement account...
Hidden fees pervade the financial industry...
The fees on fund investments are even worse. The fees always look small to the untrained eye. A mutual fund can easily charge 2%-3% of assets without looking too expensive.
When the percentages are that small, it can seem like it's not worth your time to fret over fees. But that's completely wrong.
Remember, these aren't one-time fees. It's a 2% hit every year. Over time, that 2% adds up substantially. And it's particularly egregious considering you can find funds with fees as low as 1%, or even 0.25%.
Even more troubling, each year you pay a fee, you lose decades of compounding that would grow on top of that money.
The results add up...
Consider an investor who saves $5,000 a year, earns 8% in returns on investments, and pays a 2% annual fee. Over 40 years, he amasses $786,000.
If he cut that fee to 1%, he would finish with $1,045,000.
Think of how hard you work to save $5,000 every year for 40 years. It's not easy. No matter how much you earn, life gets expensive. Over all that time, you set aside $200,000.
But here's the catch: You can earn an additional $259,000... by just spending five minutes controlling the fees on your funds.
That's easy money.
And you can do even better than that. You should be able to get your fees to less than 1% if your retirement account has reasonable options.
Skeptics might wonder... When we switch to cheaper funds, aren't we going to get worse performance? Don't bargain prices mean bad funds?
Nope. The truth is the exact opposite...
The cheapest funds in the game are index funds.
Index funds don't have a Wall Street trader behind them, trying to outcompete everyone else and beat the market. (The majority of these "smart guys" fail.) Rather, index funds follow simple rules designed to help them track the overall performance of a particular asset class, like U.S. stocks or Treasury bonds.
Most "actively managed" funds (those with a manager trying to pick the best stocks) underperform the market year after year. In fact, 96% of actively managed mutual funds fail to beat the market over a sustained period.
That means you don't have a 50-50 chance of picking a "good" fund or a "bad" fund... It hardly even matters which one you pick. The vast majority are bad and won't beat the market.
On the other hand, index funds don't need to pay superstar managers or an army of analysts. Ironically, they keep costs extremely low and provide better performance.
Investors are finally catching on. The index-fund industry is growing. According to the Investment Company Institute Fact Book, the percentage of stock assets held in index funds has grown from only 9.4% in 2000 to 20.2% in 2014. Over the last seven years, more than $1 trillion has flowed into index funds. Vanguard's Bond Index Fund recently surpassed PIMCO's Total Return Fund as the largest bond fund in the world.
It's likely your plan offers a few mutual funds that track an index.
By following these three simple steps, you can fix your retirement account and boost your lifetime returns by hundreds of thousands of dollars... in just a few minutes.
So take the time to review your retirement plan today... It will be the easiest money you make in your entire life.
Here's to our health, wealth, and a great retirement,
Dr. David Eifrig
Editor's note: On Wednesday night, Doc is hosting a FREE webinar in which he'll share his favorite ways to safely generate income in your retirement. He'll take you through the process step-by-step, and show you how easy it is to safely generate thousands of dollars of additional income in your retirement every year. Click here to reserve your spot.