Handling a Decline in Your 401(k) Value: Strategies for Recovery

Investing in a 401(k) is a strategy many adopt with the hope of growing their savings over time. However, fluctuations in the market mean that the value of these investments doesn’t always increase. Seeing your 401(k) balance drop can be disheartening and might prompt a knee-jerk reaction to liquidate your investments. However, there are more prudent measures to consider that could help steer your savings back on a positive trajectory.

Ensure Your Portfolio Is Diverse

A crucial first step when you observe a downturn in your 401(k) or IRA is to evaluate the diversity of your investments. A well-balanced portfolio spreads risk across a variety of assets, including stocks, bonds, and other investment vehicles. Having all your investments in one stock is riskier than having a diversified portfolio where the impact of one underperforming asset is minimized. Most 401(k) plans offer investment in mutual funds and ETFs, which inherently diversify your investments by pooling together a variety of assets. It’s important to maintain a balance between different types of investments (stocks vs. bonds) and across different industries and geographical regions to mitigate risk. If you’re unsure about your investment mix, consulting a financial advisor for personalized advice can be beneficial.

Stay the Course

For younger investors with a diversified portfolio, sometimes the best action is inaction. Market volatility is a normal part of investing, and short-term losses don’t necessarily predict long-term performance. Unless you have concerns about the fundamental stability of your investments, continuing to contribute to your 401(k) or IRA and resisting the urge to sell during downturns can be advantageous. Buying more shares at lower prices can lead to gains when the market recovers.

Shift to More Conservative Investments if Nearing Retirement

For those closer to retirement, the strategy shifts towards preserving capital. If a market recovery doesn’t align with your retirement timeline, moving your investments into more stable options like bonds or low-volatility ETFs might be wise. These investments offer more security, though they generally yield lower returns compared to stocks.

Tax Deduction for Losses: Consider the Consequences

The IRS does allow for a tax deduction on losses within your retirement accounts, but only under specific conditions. This includes having made nondeductible contributions and closing all accounts of the same type to calculate the loss. However, this approach is rarely beneficial due to the 10% penalty on early withdrawals before age 59 1/2 and the loss of tax advantages associated with 401(k) accounts. This route should only be considered by those over 59 1/2 and planning to use the funds for imminent retirement expenses.

Conclusion:

Market downturns can be unsettling, but by understanding market dynamics and making informed decisions, you can navigate through periods of loss without compromising your long-term financial health.

This article was adapted from an article written by Kailey Hagen on February 29, 2024 in the Motley Fool.

Disclaimer: This content is provided for informational purposes by Duke & Duke Wealth Management from Schwab Research. It is not intended to be used as the sole basis for financial decisions, nor should it be construed as advice designed to meet the particular needs of an individual’s situation. None of the information contained herein shall constitute an offer to sell or solicit any offer to buy a security. The information and opinions contained herein provided by third parties have been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed by Duke & Duke Wealth Management. Investing involves risk, including the potential loss of principal. This information is not intended to be used as the sole basis for financial decisions, nor should it be construed as advice designed to meet the particular needs of an individual’s situation. None of the information contained herein shall constitute an offer to sell or solicit any offer to buy a security.