Every time you start a new 401(k) plan or your company changes to a new 401(k) provider, you are left with the daunting task of selecting your 401(k) investments.    For most of you, its likely that you have either never heard of any of the investment choices or look to the smartest person you know around you at the office and ask them what they have done.  Its interesting that most people spend more time planning their summer vacation than they spend picking their 401(k) funds.   So here are a few guidelines and things to think about when you choose your 401(k) funds.

There Is Usually One Set It And Forget Option In The Plan

Im not a huge fan of these, but most 401(k) plans have something that are called target date retirement funds.    In theory, these funds are designed to have you elect a specific year that you predict youll retire, and the fund sets the mix of stocks and bonds (overall risk) accordingly.   You will usually see these funds as Target Retirement 2030, Target Retirement 2035, etc.    In some 401(k) plans, you may see five target funds labeled by risk tolerance such as a Conservative Fund, Moderate Fund, or an Aggressive Fund.    Just like buying groceries at the store, make sure not to let the packaging fool you about what the ingredients actually are inside of the product.     Just because one of the vehicles is labeled Target Retirement 2015 doesnt necessarily mean that the fund will be in all stable type investments.   Most of the Target funds are designed based upon needing income throughout retirement instead of having the mix set up for the actual day you retire.

Look At The Jockey Not Just the Horse

If you dont go the target account route, most 401(k) plans will give you somewhere between 10 to 20 choices on where you can invest your money.  Unfortunately, the majority of 401(k) plans wont give you access to more risky type sector investments like  Gold or technology and tend to carry more broad based options.     Within your enrollment kit, you will likely see a page that illustrates the track record of each of the investments within the plan which is the mutual funds past performance.   While past performance can be important, it is no guarantee of what will happen in the future.    If you pick a fund on past performance, you should be certain that you are actually still getting the same fund manager.  For example, a particular fund could have a very good track record over the past 10 years.  However, two years ago the fund changed managers so only the past two years are really indicative on how the fund has done.   I liken this to the analogy of whether you choose the horse or do you choose the jockey.  The question is what comes first, the chicken or the egg?   Spend time to assess track record, the manager, overall expenses and costs to decide which funds may be the best for you.    A good rule of thumb on selecting the appropriate risk and reward mix is to have an amount in fixed/bond type investments equal to your age and the remainder can go in equity or stock type investments.   If you are 40 years old, then have about 40 percent spread out between the bond investments and the remaining 60 percent can be split between the stock/equity type investments in your 401(k).

401(k)s now disclose both the internal costs of the investments and the costs paid to the broker/administrator of the plan.   Remember, that cost alone shouldnt be the sole reason to select a particular fund.   However, you should be trying to compare net after cost returns as this is more of a real measure of overall performance of the fund.    Beyond cost, its best in my opinion to find funds that have lower turnover.  Look for options like low cost ETFs or Index mutual funds as options as higher turnover funds will cost you more in the long term.    For those of you that have most technical savvy and enjoy picking your 401(k) funds, you may want to do an X-Ray analysis.  This simply means if you pick two funds in the Large Cap section, you should be certain you arent buying essentially the same thing at a different store.  I see this mistake all the time.

Click The Re-balance Button

Increasingly large 401(k) companies are allowing 401(k) participants to automatically re-balance their 401(k) plans within their online sites.    This is very easy to do, yet most participants dont take advantage of this feature.   By clicking this button, the computer will automatically sell what has done better each quarter, annually, etc. and buy what has done worse to pull the mix of your 401(k) back into the original allocation.    Since most participants rarely monkey with their 401(k) plans once they make their election, this is an important step beyond choosing your funds if you want to put your 401(k) on some level of auto pilot.

My four points arent an end all be all list on how to choose funds within your 401(k) plan.  In fact, some plans will let you open your own brokerage account today.  Its best to either take the time and do the research or hire a professional to help you.  Go to www.oxygenfinancial.net and we can show you what to do when it comes to picking funds in your 401(k).

Ted Jenkin , CFP®, AAMS®, AWMA®, CRPC®, CMFC®, CRPS®

Co-CEO and Founder of oXYGen Financial, Inc    The Leaders in Gen X & Y Financial Advice and Services

Ted Jenkin  is one of the foremost knowledgeable professionals in giving financial advice to the X and Y Generation.