An employer-sponsored 401(k) plan may be an important part of your financial plan for retirement. Between tax-deferred growth, tax-deductible contributions and the opportunity to take advantage of employer matching contributions, a 401(k) can be a useful tool for investing long term. Managing those investments wisely means keeping an eye on market movements. When a bear market sets in, you may be tempted to make a flight to safety with bonds or other conservative investments. If you’re asking yourself, “Should I move my 401(k) to bonds?” consider the potential pros and cons of making such a move. Also, consider talking with a financial advisor about what the wisest move in your portfolio would be.
Bonds and the Bear Market
Bear markets are characterized by a 20% or more decline in stock prices. There are different factors that can trigger a bear market, but generally they’re typically preceded by economic uncertainty or a slowdown in economic activity. For example, the most recent sustained bear market lasted from 2007 to 2009 as the U.S. economy experienced a financial crisis and subsequent recession.
During a bear market environment, bonds are typically viewed as safe investments. That’s because when stock prices fall, bond prices tend to rise. When a bear market goes hand in hand with a recession, it’s typical to see bond prices increasing and yields falling just before the recession reaches its deepest point. Bond prices also move in relation to interest rates, so if rates fall as they often do in a recession, then bond prices rise.
While bonds and bond funds are not 100% risk-free investments, they can generally offer more stability to investors during periods of market volatility. Shifting more of a portfolio’s allocation to bonds and cash investments may offer a sense of security for investors who are heavily invested in stocks when a period of extended volatility sets in.
Should I Move My 401(k) to Bonds?
Whether it makes sense to move assets in your 401(k) away from mutual funds, target-date funds or exchange-traded funds (ETF) and toward bonds can depend on several factors. Specifically, those include:
Years left to retirement (time horizon)
Total 401(k) asset allocation
401(k) balance
Where else you’ve invested money
How long you expect a stock market downturn to last
First, consider your age. Generally, the younger you are, the more risk you can afford to take with your 401(k) or other investments. That’s because you have a longer window of time to recover from downturns, including bear markets, recessions or even market corrections.
If you’re still in your 20s, 30s or even 40s, a shift toward bonds and away from stocks may be premature. The more time you keep your money in growth investments, such as stocks, the more wealth you may be able to build leading up to retirement. Given that the average bear market since World War II has lasted 14 months, moving assets in your 401(k) to bonds could actually cost you money if stock prices rebound relatively quickly.
On the other hand, if you’re in your 50s or early 60s then you may already have begun the move to bonds in your 401(k). That might be natural as you lean more toward income-producing investments, such as bonds, versus growth-focused ones.
It’s also important to look at the bigger financial picture in terms of where else you have money invested. Diversification matters for managing risk in your portfolio and before switching to bonds in your 401(k), it’s helpful to review what you’ve invested in your IRA or a taxable brokerage account. It’s possible that you may already have bond holdings elsewhere that could help to balance out any losses triggered by a bear market.
There are various rules of thumb you can use to determine your ideal asset allocation. The 60/40 rule, for example, dictates having 60% of your portfolio in stocks and 40% dedicated to bonds. Or you may use the rule of 100 or 120 instead, which advocate subtracting your age from 100 or 120. So, if you’re 30 years old and use the rule of 120, you’d keep 90% of your portfolio in stocks and the rest in bonds or other safer investments.
Consider Bond Funds
Bond mutual funds and bond ETFs could be a more attractive option than traditional bond investments if you’re worried about bear market impacts on your portfolio. With bond ETFs, for example, you can own a collection of bonds in a single basket that trades on an exchange just like a stock. This could allow you to buy in low during periods of volatility and benefit from price appreciation as you ride the market back up. Sinking money into individual bonds during a bear market or recession, on the other hand, can lock you in when it comes to bond prices and yields.
If you’re weighing individual bonds, remember that they aren’t all alike and the way one bond reacts to a bear market may be different than another. Treasury-Inflation Protected Securities or TIPS, for example, might sound good in a bear market since they offer some protection against inflationary impacts but they may not perform as well as U.S. Treasurys. And shorter-term bonds may fare better than long-term bonds.
How to Manage Your 401(k) in a Bear Market
When a bear market sets in, the worst thing you can do is hit the panic button on your 401(k). While it may be disheartening to see your account value decreasing as stock prices drop, that’s not necessarily a reason to overhaul your asset allocation.
Instead, look at which investments are continuing to perform well, if any. And consider how much of a decline you’re seeing in your investments overall. Look closely at how much of your 401(k) you have invested in your own company’s stock, as this could be a potential trouble spot if your company takes a financial hit as the result of a downturn.
Continue making contributions to your 401(k), at least at the minimum level to receive your employer’s full company match. If you can afford to do so, you may also consider increasing your contribution rate. This could allow you to max out your annual contribution limit while purchasing new investments at a discount when the market is down. Rebalance your investments in your 401(k) as needed to stay aligned with your financial goals, risk tolerance and timeline for retiring.
The Bottom Line
Moving 401(k) assets into bonds could make sense if you’re closer to retirement age or you’re generally a more conservative investor overall. But doing so could potentially cost you growth in your portfolio over time. Talking to your 401(k) plan administrator or your financial advisor can help you decide the best way to weather a bear market or economic slowdown while preserving retirement assets.
Tips for Investing
It’s helpful to review your 401(k) at least once per year to see how your investments are performing and whether you’re still on track to reach your retirement goals. If you notice that you’re getting overweighted in a particular asset class or stock market sector, for example, you may need to rebalance to get back on track. You should also review the fees you’re paying for your 401(k), including individual expense ratios for each mutual fund or ETF you own.
Consider talking to a professional financial advisor about the best strategies to implement when investing in bear markets and bull markets as well. If you don’t have a financial advisor yet, finding one doesn’t have to be complicated. SmartAsset’s financial advisor matching tool makes it easy to connect with professional advisors online. It takes just a few minutes to get your personalized advisor recommendations. If you’re ready, get started now.
Photo credit: ©iStock.com/BraunS, ©iStock.com/Aksana Kavaleuskaya, ©iStock.com/izusek
The post Should I Move the Money in My 401(k) to Bonds? appeared first on SmartAsset Blog.
Expert Introduction: I am a seasoned financial advisor with years of experience in retirement planning and investment management. I have helped numerous clients navigate the complexities of employer-sponsored 401(k) plans, asset allocation, and investment strategies for retirement. My expertise is backed by a deep understanding of market movements, risk management, and the intricacies of different investment vehicles.
Relevance to the Article: The article discusses the importance of employer-sponsored 401(k) plans for retirement, the impact of bear markets on investments, and the considerations involved in moving 401(k) assets to bonds. It also touches on factors such as time horizon, risk tolerance, and asset allocation, which are crucial in retirement planning and investment management. Additionally, it emphasizes the role of financial advisors in making informed decisions about portfolio adjustments during market downturns.
401(k) Plans: A 401(k) plan is a retirement savings plan sponsored by an employer. It allows employees to save and invest a portion of their paycheck before taxes are taken out. The contributions grow tax-deferred until withdrawal during retirement.
Bear Markets and Bonds: During bear markets, characterized by a 20% or more decline in stock prices, bonds are often viewed as safe investments. This is because when stock prices fall, bond prices tend to rise. Bonds can offer more stability to investors during periods of market volatility.
Considerations for Moving to Bonds: The decision to move 401(k) assets to bonds depends on factors such as years left to retirement, risk tolerance, total 401(k) asset allocation, 401(k) balance, and the expected duration of a stock market downturn.
Age and Asset Allocation: Age plays a significant role in determining the appropriate asset allocation. Younger individuals may afford to take more risk with their investments, while those closer to retirement may lean more towards income-producing investments, such as bonds.
Diversification and Asset Allocation Rules: Diversification is crucial for managing risk in a portfolio. Various rules of thumb, such as the 60/40 rule or the rule of 100 or 120, can guide individuals in determining their ideal asset allocation between stocks and bonds.
Bond Funds and Individual Bonds: Bond mutual funds and bond ETFs can be attractive options during bear markets. They offer the benefits of owning a collection of bonds in a single basket and the ability to buy in low during periods of volatility. Individual bonds may react differently to bear markets, and factors such as bond type and duration should be considered.
Managing 401(k) in a Bear Market: During a bear market, it's important not to panic and make hasty decisions. Continuing contributions, rebalancing investments, and seeking professional advice are essential strategies for managing a 401(k) during market downturns.
Conclusion: Moving 401(k) assets to bonds may be suitable for individuals closer to retirement or those with a more conservative risk profile. However, it's crucial to consider the potential impact on long-term portfolio growth. Seeking guidance from a financial advisor and regularly reviewing investment strategies are key to navigating bear markets and preserving retirement assets.
