A 401(k) is a great retirement savings account because it's easy to invest in and because your employer may even help you save by matching some of your contributions. The one downside is that, unlike a pension, your 401(k) will give you enough to retire only if you manage it correctly.
Taking control over your 401(k) can be a challenge, especially if you aren't interested in becoming an investment expert.
But the good news is, there's a simple, effortless way to ensure that the money in this retirement account is invested wisely so you end up with the nest egg you need. Here's what it is.
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Taking this one step can enable effortless 401(k) management
For many people, one of the biggest challenges of managing a 401(k) is picking investments that are appropriately matched to your risk tolerance.
That's because you'll need a mix of different assets to reduce the risks associated with investing while still earning reasonable returns. And the specific mix you'll need changes as you get older because you can't afford to be as tolerant of risk when you have less time to recover from market downturns.
If you aren't interested in -- or good at -- investing, building an initial portfolio can be hard and changing your investment mix every year can be tedious. But the good news is, you don't necessarily have to do that. That's because most 401(k) plans offer something called target date funds.
Target date funds are a special type of investment fund typically named for the date when you'll need the money you are investing (your target date). For example, if you plan to retire in 2055, you might find a target date fund named something like 2055 Retirement Fund.
When you invest in a target date fund, your money is automatically put into an appropriate mix of different assets based on the number of years until retirement. Over time, the target date fund automatically shifts your asset allocation. So by the time you hit 2055, less of your money will be in equities and more will be in safer investments. You don't have to do anything more than just research the fees associated with the target date fund, sign up to put your money into it, and hold on to it until retirement.
Now, there are a few downsides to target date funds. They tend to be more expensive than if you just invest in a mix of ETFs you select on your own. And their risk tolerance is based on what is typical for someone with a certain investing retirement timeline -- it isn't personalized to you. If you prefer to invest more or less conservatively than most people, target date funds won't work.
Because target date funds spread your money around in a lot of different assets, you're also going to limit your potential returns and won't get any huge performers as you might if you became skilled at investing in individual stocks. And if you don't pick the right target date, your asset allocation may be off slightly.
Still, for many people, the ability to just pick a fund and be done with it makes target date funds a great choice. If you know you aren't likely to rebalance your portfolio on your own, they may be the safest option for you. Ultimately, it comes down to your investing goals and your willingness to spend time managing your portfolio in exchange for the potential for more gains.
