Opinion

Felix Salmon

Chart of the day, retirement account edition

By Felix Salmon
September 14, 2011

401.jpg

Many thanks to the good people in the Thomson Reuters HR department for helping put the data for this chart together; it’s my contribution to the TR Financial Wellbeing Month.

The blue bars on the chart show the average balance, quarter by quarter, in TR’s 401(k) accounts — more than 20,000 of them, at last count. The latest figures show an average balance of $94,581, an all-time high and an increase of $19,157 from a year earlier. That’s a rise of more than 25% in one year.

Americans tend to be much more obsessed with the stock market than the citizens of any other country; when it’s rising they’re happy, and when it’s falling they’re sad. One reason for that is that they tend to pay attention to retirement-account balances, and a falling stock market makes them feel that they’ve just lost lots of money.

For instance, from the third quarter of 2007 to the fourth quarter of 2008, the average 401(k) account dropped by $18,281, or 26%. That’s a lot of money: Thomson Reuters pays well, but we all could use an extra $18,281. And when you keep on paying money into your account, only to see it decline for five successive quarters, you can definitely get the feeling that you’re throwing you money away, and that you’d be better off not bothering. Wouldn’t you be better off not paying anything into your account, and instead spending $18,281 on, say, a new car?

Actually, you wouldn’t. The y-axes on this chart both go all the way to zero, which means that the decline in 401(k) balances really was a lot smaller than the decline in the broad stock market. And our retirement balances have been doing pretty well since the bottom of the market, too — better, actually, than the S&P 500.

What’s more, everybody wants to be invested in stocks when the market’s going up — just not when it’s going down. Is it possible to actively manage your 401(k) so that you try to go long stocks when they’re going up and then move to cash or bonds when stocks are falling? Well, you can try. But that’s called timing the market, and it tends to end in tears. You are not a hedge-fund manager, and even they get these things wrong. Don’t think you can time the market, because you can’t. So if you want to be invested in up markets, you have to be invested in down markets, too. And as the chart shows, your retirement account will tend to grow most of the time anyway.

The main reason for this is that we’re not just sitting back and hoping that the stock market will do all the heavy lifting. Every paycheck, we’re putting money into our 401(k) accounts — about 8.7% of what we earn, on average. And so every quarter, we see our balance rise not just because we’re great at investing, but also because we’re manually adding to the pot.

And in fact that second aspect of saving for retirement is significantly more important — and much more under our own control — than the first aspect. When it comes to our 401(k) plans, people tend to focus far too much on the quarter-to-quarter fluctuations in mark-to-market asset value, rather than trying simply to save as much money as they can for when they’re older. My advice is to think of a retirement account like a piggy bank: you put money in there on a regular basis, and eventually it grows to a substantial sum. Once it’s in there, of course, you try to invest in something reasonably sensible — target-date funds are a pretty good idea, so long as their fees are low. But you don’t have much control over the internal returns on your retirement funds; you do have control over how much you save. So concentrate on the latter more than the former.

And in fact the lower the stock market, the better for someone who won’t be retiring for another few years. I, for instance, won’t be retiring for another couple of decades — and so what I want is for stocks to remain as cheap as possible for as long as possible, so that I can buy as many of them as possible with the money I save. When stocks rise, that just makes them more expensive.

So when you get your 401(k) statement, just file it away in a drawer, unopened. Knowing your balance won’t do you any good, unless perhaps it scares you into saving more. If you’re already saving as much as you can, or if you’re maxing out your 401(k) contributions anyway, then it’s a good idea to just ignore both the stock market and your retirement balance. Neither of them is nearly as important to you as you think, especially since there’s nothing much you can or should be doing in response to either piece of information.

Comments
17 comments so far | RSS Comments RSS

Is this your way of apologizing to all the people who wrongly claimed earlier that the 401(k) deduction isn’t the biggest boondoggle in the tax code?

I’m certain they’re happy, but the rest of us are just going to think you’re being Silly Felix again. (Hmmm, I feel a Twitter handle coming on…)

Posted by klhoughton | Report as abusive
 

“When it comes to our 401(k) plans, people tend to focus far too much on the quarter-to-quarter fluctuations in mark-to-market asset value, rather than trying simply to save as much money as they can for when they’re older.”

Excellent point! Especially like the reference to the “mark-to-market” silliness. If you instead step back and considered the implied value of what you own (perhaps estimating future cash flows?), you’ll realize that it doesn’t fluctuate nearly as much as the market.

Still, I believe there are times when it makes sense to shift gears in response to the market. If you are looking at a retirement picture that does not require a positive real return to meet your needs, then you ought to strongly consider emphasizing security and stability in your portfolio. Naturally, this is more likely to happen when the stock market is high. If your balance is low, then it makes sense to carry as much risk as you can comfortably tolerate — or increase contributions. Either of these is a way to benefit from a down market.

Note that this rationale emphatically does NOT reference expected future market returns. It isn’t an attempt to beat the market. It isn’t an attempt to time the market. This is where individuals have a big advantage over hedge fund managers.

Posted by TFF | Report as abusive
 

I feel like I’m missing something. I would have assumed that this is about as apples and oranges a comparison as imaginable. It’s like saying a hedge fund is doing well because it’s AUM has gone up, even if the AUM growth is just from new investors adding their capital and not from the fund’s actual performance.

To put it another way, yeah, the balances have gone up, but they didn’t go up because people were putting their money in the market, they went up because people were transferring in cash, which retained value because it *wasn’t* in the market.

I think the conclusion that we should invest for the long term stands, but the argument advanced in its favor doesn’t really work.

Posted by alexh | Report as abusive
 

Maybe I’m missing something… Isn’t this what you would expect to see if people are contributing to their 401(k)? The market gains plus contributions would have to outperform the market gain alone. Likewise if the market drop makes my balance drop by $10K and I contribute $15K over the same period, then my balance goes up and even as the S&P falls. I don’t get why this tells us anything.

Posted by silliness | Report as abusive
 

Good post. Besides how much one’s contributing, one should also worry about the fees your 401(k) provider is charging. Compared to Vanguard’s, some kind be quite onerous and few people seem to care. It adds up to hundreds of thousands of dollars over 30-odd years.

Posted by thatch22 | Report as abusive
 

Here’s a question that I hope to see addressed more deeply:

Is it wrong to even fight for growth? Demographics is a huge elephant in the room and we are in the middle of a paradigm shift in the developed world.

Demographics is in my view not a side note, it is the main event. Looking at Japan, Germany or any aging society there just is very little demand. Much of economic life just vanishes. You need zero new houses. You need zero new roads, schools and the like. And what’s more, the elderly just slow down economically. They eat less, travel less, already have most of the ‘stuff’ they will ever need.

Even in America, which supposedly is fine demographically, there are major issues. The marriage rate is way down, and the fraction of the population that follows the ‘normal’ trajectory of working hard to support a nuclear family and a mortgage is much-reduced. Even if a majority eventually get there, if it happens at age 35 instead of 25, the collective impact in society is very large. The number of families can actually decline or stagnate as population rises.

It seems that the whole global economy has been structured for growth for the last century. Much of economic activity is centered on building the new, whether in infrastructure or housing or social organizations or businesses or products.

What if suddenly there is no need for the new anymore? We can just make do with what we have (buildings, businesses, products), as we are getting older, with occasional maintenance or replacement. There goes 30% or 40% of the economy, right? And the thing is, isn’t that as it should be? Shouldn’t the major parts of the economy be allowed to downsize dramatically? It honestly seems like that is what the market is trying to do in aging societies, but the powers that be can’t get their minds around the idea that major contraction is really okay and actually proper, for an aging society.

Can an economy right-size itself at a substantially smaller size? What would this mean, because it sure seems like the invisible hand is pushing hard toward that?

Right-sizing of the *entire economy* raises 100 hard questions, but those questions need to be asked I think, because the invisible hand *will* prevail in the end.

Posted by DanHess | Report as abusive
 

It should be added that even a zero-population-growth society undergoes a major transition from a growth society, and you don’t need population decline for demand for new houses and many other new things to go to nearly zero.

Posted by DanHess | Report as abusive
 

This graph is incredibly misleading. Show me a graph that shows the average balance per eligible employee, not just those with balances. The reality is that many Americans aren’t covered by a pension of any kind, and that the median balance is $0. I’d also be interested to know if the TR match has changed over time. Also, while Brightscope ratings are limited, TR’s rating does seem to be above it peers.

Frankly, I think this post is a little off. If you ask me the most important thing for retirement saving is having a good job with an employer that offers generous benefits and is a meticulous plan fiduciary that monitors plan costs. Of course, once these selections are made, actually contributing to the plan is important.

Posted by chappy8 | Report as abusive
 

DanHess, that is an excellent point. Have been pondering it for a decade, and still don’t have a solid answer.

I could describe my own vision for a “right-sized” economy, but others obviously prefer a different emphasis. Ideally each individual should have the opportunity to find their own answer.

The greatest challenge may be distribution of the wealth. We can meet the basic needs of society with fewer workers than ever before — so how shall the other 90% of the population be employed?

If you get a chance, read the “Beggars in Spain” series by Nancy Kress (c) 1993. Hopefully we can find a better answer than that.

Posted by TFF | Report as abusive
 

TFF –

I agree with would, answers are very tough. Certainly, there is no sense in make-work or having people do things that aren’t really important just to keep them busy.

I was listening to NPR on Monday night (a rerun of something from earlier that day). The topic related to job creation with Texas being a case study. Huge job creation, but the jobs often don’t pay that great.

Then they had a snippet of Bill Gross talking and my ears perked up. Basically he said that Americans in the globalized world just have to get used to earning a lot less. To hear him talk, we Americans just have to get used to Texas-style job creation, i.e. you can get your jobs but not for great pay. As you can imagine, the NPR callers don’t accept that and I partially agree with them that solid pay is still possible with useful education.

But I think the ‘great adjustment’ will have to involve US wages coming down a lot because we aren’t even on the same order of magnitude as China yet and not all of the adjustment will come from them.

The thing left to do is make one’s life cheaper.

(1) Houses and mortgages are now much more affordable. Enjoy if you can, or get a downpayment so you can participate there.
(2) Online education is opening up. You can learn anything you want to under the sun and then certifications, bar exams and all the rest.
(3) Walmart helped gut American manufacturing. One might as well take advantage of their low, low prices and let the rich support the boutique stores.
(4) The best forms of recreation are free. ;)

People will just have to humble themselves or hustle hard. True status is not primary about material wealth anyway, it is about integrity and charity, education and manners.

Posted by DanHess | Report as abusive
 

DanHess, you know that I am a big proponent of education, both for self-improvement and as an economic driver. (It makes more sense to employ people as teachers than to employ people building more McMansions, or a bridge to nowhere…)

That said, Megan McArdle had an interesting commentary on a post by Arnold Kling: http://www.theatlantic.com/business/arch ive/2011/09/the-new-new-new-economy/2450 28/

Specialized skills are still in demand, but compensation may be plateauing. And part of the reason they are well-compensated is because they are rare. Train ten million IT professionals and you will have 9 million unemployed IT professionals (with falling salaries for the remaining employed).

My sense is that creativity and entrepreneurship are still immensely valuable, and likely always will be. But can this be an answer for the broader economy?

“The thing left to do is make one’s life cheaper.”

That is always the alternative. Rethink some of our assumptions about living arrangements (children moving out only when they get married, elderly parents living with children) and you save a lot of money over what has in recent decades been the American norm. It might not be fun to live with your MIL, but there are times that it makes clear economic sense.

Posted by TFF | Report as abusive
 

DanHess you are right on the money. I actually think it is even bleaker for the wealthy nations. One generation ago there were only 1 billion people who lived under the framework of capitalisim and democracy. We are fast approaching 4 billion living under those conditions today. Much as I would like to belive that a banker in the US is worth more than a banker in Vietnam the invisible hand seems to think that developed nation incomes are a little too high emerging economy incomes are a little to low.

The key is how fast will the global economy rebalance the massive inequities that exist today. Even if it takes an entire generation it will feel like we are at best swimming franticly in place. Tell your loved ones to constantly strive to build up both their marketable skills and personal capital… anyone who dosen’t will almost surely be falling behind.

Posted by y2kurtus | Report as abusive
 

I’m with AlexH and Silliness, above; the chart makes no sense. Of course 401k balances outperform market indicators. The 401k balances have money pouring in, in the form of deposits. If we were in a normal economic period when you were hiring lots of young go-getters, then the average would not go up quite so much from that effect, but at the moment, nobody’s hiring, and if anything we’re seeing a process where the most recent hires get laid off.

Posted by Auros | Report as abusive
 

Here’s a thought…

When states want growth, they frequently use tax incentives to steal companies from other states.

If the US wants growth, might it steal talent, capital, and innovation from other countries? What policies would favor this?

Posted by TFF | Report as abusive
 

“That is always the alternative. Rethink some of our assumptions about living arrangements (children moving out only when they get married, elderly parents living with children) and you save a lot of money over what has in recent decades been the American norm. It might not be fun to live with your MIL, but there are times that it makes clear economic sense.”

Yup. There’s the number one answer, tough as it will be. All the supersized houses built in recent years are perfect for multi-generational living, and now they are cheaper. Plus the grandparents provide childcare while both parents work, if needed, saving money. If the grandparents need to be cared-for, their adult children can do that, saving more money. Less wild living means fewer visits to the shrink, saving yet more money.

Posted by DanHess | Report as abusive
 

“Plus the grandparents provide childcare while both parents work, if needed, saving money.”

Our first child was born in 2002. I could have quit at that time (or if I wanted to be fair to my employer, a few months ahead of the birth). Instead we arranged for my mother-in-law to live with us for a year and a half, while I continued working. That continued employment generated another $80k-$90k in income, which has grown to $150k-$200k in our retirement accounts.

Giving up $90k of income in your early 30s is very expensive.

Posted by TFF | Report as abusive
 

This is quite possibly the worst chart ever. For those of you who were even remotely fooled into thinking that this guy has any idea what he is talking about; please think again. The chart is a joke. What is wrong? Let me help:

1) You can not chart average balances to compare total returns with an index. The contributions being made to the 401k accounts would skew the results (like it does here)

2) The chart axes should show percentage changes, not absolute values. This also skews the graph and makes it impossible to interpret (not that the underlying data has any validity)

3)A growth in 401k account balances could be attributed to non-market factors such as: more people retiring or leave the firm (smaller denominator), accelerated contributions (higher numerator), or some other factor.

The only thing that this chart measures, at least in proportional terms, is the author’s relative level of stupidity vs. the average population. As you can see it is rising over time, presumably as he becomes more confident in his poorly researched theories. Honestly, what qualifications do you need to be a financial writer? Apparently none.

Posted by zopem2 | Report as abusive
 

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