August 21, 2007 by Joe Ponzio

401k plans seemed like a good idea at the time. Individualized retirement plans. Personalized portfolios to replace the stogy old pension. Real growth for young, aggressive investors; safety for senior employees facing retirement.

Many years ago, there was no 401k-it simply didnt exist. Companies had pensions-giant pools of money conservatively invested to provide employees with lifetime incomes after they retired. It was a wonderful system if for no other reason than accountability.

Yikes-accountability in the investment world? You bet. The brokerage houses that ran the pensions had to have good money managers. Pensions required solid returns and the law required that pensions could only buy good, safe, reliable investments. If the brokerage house couldnt perform, theyd lose the multi-million (or billion) dollar account.

Why Should Wall Street Be Accountable For Investments?

Then, the 401k plan was born. Now, I wont go into the full history but Ill sum it up like this: How does it make sense to take retirement money away from professional money managers who are accountable for their performance, and put it into the hands of the employees-people who dont love investing, dont have the time to do it properly, and dont necessarily want to spend the time to learn it?

So, on top of all the work, family, social, and other obligations you have, you are solely responsible for managing what may end up to be your most important retirement account. Of course, most people are busy, dont understand it, and get no support from the brokerage firm providing the 401k; so, it is no wonder that, while the S&P 500 earning some 12.2% a year, the average 401k investor had an average annual return of just 2.6% from 1984-2002 according to this study by Dalbar (no longer online).

Why The Shift From Pensions To 401k Plans?

Lets go full circle-accountability. Wall Street was accountable for the performance of the pensions. But many of the Wall Street brokerages are not in the business of providing investment advice and portfolio management for growth-theyre in the business of selling investments for a profit. Any advice they provide is generally incidental to their investment sales business.

Heres the problem: At any given time, there are only a few great investments worthy of your retirement (or pension) money. Wall Street will buy/sell those-but no firm could survive on making only a few sales a year. Once the great investments are gone, they have to buy and sell mediocre investments.

But, Wall Street firms have to make more money next year than they did last year-so they have to start buying and selling bad investments too.

Heres The Rub

Picture it: All the Wall Street suits drooling over hundreds of millions of dollars in pension money-money they cant invest but in blue chip stocks and AAA rated bonds. All those commissions being wasted. All those investment banking deals being passed on. All those profits.

Hmmm. They cant sell us bad investments directly. What to do? What to do? I got it!

The Profit Plan

Lets take all of that pension money, roll it into 401k plans, jam them full of our mutual funds. Then, well buy and sell great, mediocre, and bad investments in the mutual funds! Investors wont know the difference because we dont need to tell them about the tens of thousands of mutual funds out there or that index funds would beat our pants off. Well just throw them a bone: 10 or 12 of our funds-funds that pay us commissions ever three months, buy our investments, and pay some of our expenses.

Out Goes Accountability

The end result? Wall Street is no longer accountable for your retirement-you are. But hey-they dont want you to hurt yourself, so theyll give you a list of mutual funds-some good, some horrible-so you dont get confused.

Oh, and if you dont reach your goals? You should have saved more, spent less, been more aggressive, been less aggressive, diversified more, or diversified less. In any event, dont blame the people managing the mutual funds or providing the advice to the plan. Theyre just there to get paid.

Im Too Angry To Go On

Actually, Im just getting a bit long winded. Ill continue the 401k rant tomorrow. If you can feel my seething anger towards this ridiculous now-standard retirement plan, I apologize. My anger stems from seeing (and having seen) too many people in their late 50s with little more than two- or three hundred thousand dollars in their 401k plans. Their dreams of retiring with their near $60k income are out the window as they struggle to figure out if (not when) they can retire.

They thought they were doing well. But thats only because no one told them differently. And with their 401k, they have no options.