Mutual Fund Monday - Dagen McDowell

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What's Wrong With Your 401(k) -- and How to Fix It

Dagen McDowell

In theory, investing your own retirement money through a 401(k) sounds sensible. But in practice, the system works about as well as the airline industry.

Many people in this country are saddled with complicated options, high fees and mountains of inaccurate, indecipherable information.

But you probably don't have a choice. All you can do is learn to work with what you've got. Here are some common problems investors face in their 401(k) plans, along with some quick solutions.

A Short List of Lousy Funds

The average 401(k) plan has about a dozen investment options in it. But that number means nothing if most of your choices are just plain awful.

A 401(k) is a great place for a fund company to unload those portfolios that no one with an actual choice would ever buy. You know the type: Lofty expenses, shaky inexperienced managers and weak, if not awful, returns.

If you screen for index funds on Morningstar's Web site, you'll get a surprisingly long list that includes some shockingly expensive funds. Who is buying these things? Investors in 401(k) plans who have nowhere else to go.

Five Funds: Small-Cap Value Offerings That Earn Your Money These funds, some well-known, some undiscovered gems, do a fine job unearthing winning picks.

In one friend's 401(k), I spotted the (PSPIX Quote)UBS S&P 500 Index fund, which costs 0.6% every year. That's over three times more expensive than the (VFINX Quote)Vanguard 500 fund.

In the real world, you'd run in the other direction. But in the land of company-sponsored retirement plans, you're trapped.

Solution: Even if the index fund in your 401(k) plan looks pricey, it's still a decent alternative to expensive actively managed funds. The average stock picker cannot consistently beat a broad stock market index like the S&P 500. And you can easily track the performance of the S&P index in the paper every day.

Thank God for small favors.

Investment Overload

The only thing worse than a limited number of lousy choices is a lengthy list of funds that are equally terrible. More is definitely not better when it comes to 401(k) plans.

Some retirement plans offer dozens of funds to choose from. The lists are simply overwhelming. I write about mutual funds for a living and I don't have the patience to go through all of the options I've seen in some 401(k)s.

And even if you did spend hours, days and weeks trying to research all of these funds, you'd probably find out that many of them are very similar: weak-stock funds that cost a lot to own.

Solution: If you're overwhelmed by the number of funds in your plan, you can winnow the list down by looking for the names of good, solid fund companies. You can hone in on names like Vanguard, T. Rowe Price, Fidelity, American and Pimco. Then the picking becomes a little easier.

Few Fund Facts

Your plan might have a manageable number of choices in it. But you still face the chore of trying to dig up information about these funds.

On the Web site for Franklin Templeton's defined contribution participants, you get a list of your plan's funds, their ticker symbols, prices and performance through the end of the month.

That's it.

No expense ratio. No general description of what the fund invests in. Nothing.

There is a quick link to each fund's prospectus. But that disclosure document is filled with mind-numbing legalese and lots of footnotes in tiny print. Why don't they tell you upfront what the funds cost? Probably because if it was clear what you were paying for some of them, you might not put your money in them.

You can always try looking in the printed materials that your company gives you. But that data might be so old that it looks like the bull-market boom times all over again. One acquaintance's company recently gave him a packet of plan information that was last updated in 2000.

And some plans even offer investments that are almost impossible to track. Some portfolios aren't standard mutual funds. They're managed accounts or other private investment vehicles that you can't get information on.

And after three years of losses in the market, who wants to buy an investment blindly?

Solution: Thankfully, you can always go to Morningstar's Web site to research a fund. Or you can even try using a fund company's own Web site to dig up the necessary dirt.

The list of problems goes on and on. Your plan might not offer a range of different asset classes to invest in. If you want a junk-bond fund or a decent small-stock fund, you might have to look for one on your own.

And you should be careful that you don't overdose on your own company's stock, which wiped out the savings of many employees at Enron.

After the Enron debacle, government leaders promised to pass sweeping rules to protect investors in company-sponsored retirement plans. So far, they've done very little.

The fund companies and employers aren't doing you any favors either. So what you do on your own as an investor becomes even more important.