The stock market's skittishness this year has given 401(k) investors the heebie-jeebies. They've been pulling the trigger on trades to get out of stock funds.
While that may calm nerves in the short term, it's a losing strategy long term. How do you know how long a sell-off will last? When should you get back in? Most investors guess wrong on these questions and lose money over time.
Yet investors ignore these questions routinely. They follow the reptilian part of their brain that tells them to flee danger.
Let's take one particularly volatile day: February 5 of this year. The S&P 500 Index of the largest stocks in the U.S. lost 4%. That was the index's biggest single-day loss since 2011. A lot of 401(k) stock fund investors headed for the exit.
"The net trading activity [in 401(k)s surveyed] was almost 12 times the trading activity of a typical day," reported Alight Solutions, a company that monitors 401(k) trading. "There have only been a handful of days with a higher trading activity."
As with most panic-selling days, investors dumped stock funds and transferred their money into bonds. While that seems like a safe thing to do, they probably would've been better off staying put since stocks rebounded in following weeks.
Can you blame anyone for wanting to get out of the market when it looks like the sky is falling? There's no question that stocks are going to be volatile this year.
A better strategy is to not trade at all.
That's right. Do nothing.
According to the latest S&P Indices SPIVA report, static index funds outperformed active traders in all categories: Some 84% of all active stock funds failed to beat the S&P 500. That's a five-year record through last year.
The index advantage is even stronger in bond funds: For long-term government bonds, index investors did better 98% of the time.
Of course, there are always years in which active managers beat the index. But you'd have to know who they would be ahead of time. No one guarantees past returns, and most crystal balls are cracked.
For now, you need to take a hard look at your own objectives. If you need inflation-beating growth in your portfolio, you won't get it from the vast majority of bonds or cash.
A solid alternative is to prudently diversify for your age and career and stick to index mutual funds. Just forget about active trading.
Your performance will improve.
