I was recently looking at my father’s 401k and cringed at his “picks” (his words). This is a manufacturing guy, not a money guy. I realized though, I went to school for finance, while he went to a factory. So I explained to him some common rules to think about and live by and how to avoid some of the most common retirement mistakes average people make. These are somewhat conventional, but should be restated and elaborated on.
- DON’T BUY TOPS – I have seen this often. People jump on emotion. Apple is a perfect example. As it had it’s ride up, every investing entity needed it. Nothing goes up forever. Common mistake of people is thinking it will. So if you see something that has shot up with returns out of the norm, you might have missed the move. That’s okay, there are other opportunities that will come.
- DON’T SELL BOTTOMS – It is the reverse here. If you had a fund go down 50%, why sell it unless you think it will go to zero. I see too many take the huge hit and get financially shell shocked. Then they go buy a money market fund that loses to inflation. You should always treat an evaluation as brand new.
- KNOW CURRENT EVENTS – Some things like inflation rates should be known. This is the number one thing I told my father. Why go into an investment that will LOSE to inflation. Yeah you see a gain, but what good is that when that money has less purchasing power? You should also have a little time to do research or you shouldn’t be managing your account. This goes for globally too. Rule of thumb, if you don’t have any details on why “it should get your money”, you might want to pass on it. Example, by father saw a 20% gain a EuroPacific European fund. Okay, that’s cool and all. However, what does he know about the markets of Europe? NOTHING!
- THE RULE OF 100 – There is a rule called the rule of 100. If you are 60 years old, you should have 60% in low-risk investments. 70 years old should have 70% in low-risk investments. I am more arbitrary on this. You still have to keep pace with inflation or you will be eating it up at a faster rate. I have seen numerous people take their money and place it in a savings account, only to pull it to checking when they need it.
- DIVERSIFICATION – This is very important. To keep it simple. If you have all eggs in one basket and drop it, good bye eggs. If you have them in two baskets, well you only lose half of them. If you have them equally in three and drop one, you lost a third. So on and so on.
- DON’T OVER DIVERSIFY – Yes, you can over diversify. Going back to the basket example; if you buy a basket for each egg, you can easily complicate things by the cost of the baskets OR you can over-think things (which happens more) by being caught up on all those baskets. While you want to think about things, you don’t want to over think things.
- PAST RETURNS ARE NOT FUTURE RETURNS – There are a lot of times people will see a fund’s one or three year return and simply shoot with the one with the highest one or three year return. They don’t think that that fund gained the top returns by taking more risks. They don’t look at how the fund did in the worse of times. My father simply looked at the one year and three year returns. He did not look at the five year returns or how the fund manages itself. You want balance, not wild swings. The past returns do not guarantee future returns.
- DO NOT LEAVE YOUR 401K AT A PREVIOUS EMPLOYER – Another common mistake. This also goes for those that do not roll the 401K out of the employer’s plan after retiring. The more choices you have, the better you are. My dad has 12 options to pick from (of which two do not beat inflation). Other 401K plans do not have that, while others have more. More options allow you more opportunities.
- HAVE A PLAN – You need to know how much you plan to spend in retirement. You will see numbers from other advisers and guides, but you have to plan for you. Want to take a trip or two? Plan for it. You do need to remember inflation when planning for the future. This may be little morbid; but you have to realistically plan for how long you plan to live, medical costs, and other aspects that come with retirement.
- HAVE A PLAN-B – Guess what? Unexpected stuff is going to happen. A kid is going to maybe need money because they lost their job, you may have a medical cost you didn’t plan for, etc. You should have a Plan-B just in case other things come up. I understand some have a hard time putting away for retirement; but if you have the ability to allow for a Plan-B, you may save some headaches in the future with it.
So these simple tools should be able to help you with your retirement account, and planning a lot. The biggest thing I told my father is that it is not wrong to have assistance or ask for help. However, if you have the time to look at it on regular basis you will be better off; even if somebody is managing it.
Now, go have a talk with your father (or mother) and make sure they are prepared also. You could stand to reevaluate your retirement make sure you are balanced. Also, remember, it’s never too early to start planning for it and teaching it. Who knows; with the right planning retirement may come sooner than expected.