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The Stock Market Is Iffy Right Now. What Can You Do With Your 401K?

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On a daily basis, the stock market seems to buzz around like a balloon you let go of before tying the end. Equity fund prices are all over the place. The concerns de jour are China, oil prices, interest rates and the possibility of a global recession. With so much going on, it’s no wonder that the market is acting like a drunken monkey. And it’s no wonder that many investors are confused and frightened.

If you are asking yourself how to invest your retirement money now, you aren’t alone. Everyone is asking the same question. But the good news is you don’t have to sit there and remain anxious. I can’t predict the future so I’m not going to try, but there are plenty of steps you can take to protect and grow your retirement money now. Here are five of them.

1. Compare Your Funds to the S&P 500

Good markets mask underperformance, but weak markets usually don’t. Compare the year-by-year performance of your funds to that of the S&P 500. I’m not talking about 3- and 5-year averages. I’m talking about year-by-year performance. You can easily find this information online or in the fund prospectus. Another approach is to simply look at a graph of your fund vs. the market. (You can learn more about how to do so here.)

When you do this exercise, you might see funds that should have been sold long ago. Even if your funds did well during good years in the past, how did they do during market downturns? For example, aggressive funds might earn more during strong periods, but they often lose more during downturns. If you are not comfortable with those losses, it might be time to switch. This is why it’s important to review the year-by-year performance and review these kinds of graphs.

2. Make Sure You Have the Right Asset Allocation

Are you taking too much risk? Do you have too much money in the stock market? Should you shift some assets into fixed income? Even if you have great equity funds, if your allocation is too aggressive, you might get blown out of the water when things get rocky. According to a recent study by Dalbar, the average investor underperformed the market by up to 7 percentage points in 2008 due in big part to their emotions. On $100,000, that’s a potential loss of $7,000 per year. As you can see, our emotions can be extremely expensive.

One great way to keep your emotions in check is to have the right asset allocation. This simply means reconsidering the mix you have between equity and fixed income. By moving more money into fixed income and out of equity funds, you might be able to mute losses during downturns while still allowing the portfolio to grow over time.

How do you know how much risk you should take or what kind of mix works for you? There are a number of free tools to objectively measure the risk you are comfortable with and compare it to the risk you are actually taking in your portfolio. Take the time to understand your risk tolerance and then make sure you know how much risk you are actually taking. If there is a mismatch, realign your investments.

3. Review Your Process for Picking Investments

By far the most important predictor of your investment success is the process by which you buy and sell holdings in your retirement account. Some people like the “set it and forget it” approach to investing. I know this is easy to do and it saves time, but it can be very expensive as well.

The buy and hold might work if you buy index funds, but even then, you have to be mindful. Indexes come in and out of favor all the time. Take a look at how markets around the world are doing and adjust your portfolios to lighten (or eliminate) your holdings in distressed areas while perhaps putting a heavier emphasis on those areas that are performing well.

Whatever process you use to pick investments, make sure you evaluate your fund’s performance at least each year.

4. Remember Your Timeframe

When the market is soft and you see a lot of red ink on your investment statements month after month, it’s difficult to remain sanguine. But if you shift your thinking and consider your ultimate investment timeframe, it just might be easier to relax.

When most people plan their retirement, they consider the end date of the plan as the day they retire. I understand this, but I think it’s a little short-sighted.

According to the Social Security Administration, if you are 45 years old today, you can expect to live about 40 more years. This means that if you are 45 years old today, you should plan your investments with a 40-year timespan – not just until you retire.

That being the case, it doesn’t matter what your account values are today, this week, this year or next year. What matters is how to grow your money safely until you retire and how to invest that money once you do retire to create the most income in a safe way for the rest of your life.

5. Accept Imperfection

Stock market prices reflect conviction (or the lack thereof) in the economy. Right now there are both strong positives and serious weaknesses in our system. Over the short-run, the market could go either way. Nobody knows which “story” will win the hearts and minds of investors. And, as I said above, the future is unknowable – despite what some pundits say.

People who expect to call every market turn right often end up going broke. That’s because they jump in and out of investments at the instant the market turns against them. As a result, these people never give the market a chance to work its magic.

As you’ve seen, there are plenty of steps you can take to make sure you have the right investments and the right investment approach.

If you’ve taken the steps I’ve suggested above and are confident in the funds you hold and the process by which you make your decisions, your best step might be to do nothing right now and accept the fact that sometimes account values drop. It’s true and unavoidable. But you should accept that only after you’ve done everything you can to make sure you hold the right investments.

You might feel like current market volatility is a threat but it’s actually an amazing opportunity. When the market is strong, few people take the time to evaluate whether or not their retirement money is invested wisely or not. Now that the market has got your attention, take advantage of it.

[Editor’s Note: You can monitor your other financial goals (like building good credit) for free on Credit.com.]

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