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Be the Master of Your 401(k) Domain

As the financial crisis continued to unfold and the stock market crashed last week, we saw an increasing number of news stories and TV segments aimed at trying to help everyday people sort this out and assess what it all means for their future.

Part of this effort should include a better understanding of traditional, or open-end, mutual funds that are the only investment product available in many 401(k)s and are also the preferred choice for many investors outside of retirement plans.

The S&P 500 has fallen 38% so far this year, meaning that the vast majority of stocks are also going to be down a lot. Anyone owning stocks in a fully invested portfolio is almost certainly going to show a loss close to 38% either way. This includes equity mutual funds.

Most mutual funds, either by philosophy or prospectus, will be very close to fully invested at all times. They might leave a 5% cash cushion to manage redemptions. There are, of course, exceptions but mutual funds rarely exceed a 10% cash level, and an index mutual will maintain minimal cash.

The chart at the bottom of this article shows the year-to-date performance of an unnamed fund that owns domestic and foreign stocks, compared with the S&P 500 and an ETF that tracks the MSCI World Index.

Contributing to the performance is the fact that it is essentially fully invested. Anyone owning this fund has had bad luck on two fronts. One is that the market is down a lot this year and the other is that this, coincidently, is a year that the fund is lagging the market. All mutual funds beat the market some years and lag it others. The funds that never beat the market are ultimately closed or merged into another fund.

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