Managing your 401(k) plan account through a market downturn

Investing for a long-term goal, such as retirement, takes planning, patience, and discipline. Although investing in stocks has proven to deliver positive returns over long time periods, short-term market fluctuations can make investors nervous about their ability to save enough. This can often lead to decisions, such as getting out of the market or moving entirely into bonds, that can hurt long-term performance. Learn what you can do to help withstand a market downturn. 

Most people rely on savings accounts and investment portfolios that include stocks and bonds held in taxable accounts or qualified workplace retirement savings plans, such as a 401(k), to meet retirement income needs. 

401(k) plans can be an effective way to save for the future, and they include features that encourage investment discipline and long-term goals, such as tax-deferred savings and penalties for the early withdrawal of funds. This long-term focus is important because the stock market goes up and down daily, but generally goes up over time.

Many investors become nervous during stock market downturns, especially in bear markets where stocks lose 20% or more of their value; conversely, investors tend to get excited about bull markets, when stock prices go up at least 20%.

The history of market cycles shows that, while stocks move up and down over short periods of time, they've recovered losses from every bear market; in fact, the longer the investment holding period, the greater the chance of a positive outcome. For example, investors have earned positive returns from owning stocks in the S&P 500 Index over every 15-year period since 1950.

Relax—it’s all about dollar cost averaging

Investors may be tempted to sell during periods of market turbulence, but understanding how the market works can remove some of the nerves people feel so they can continue contributing to a 401(k) plan through automatic payroll deductions. When saving for a long-term goal, such as retirement, regularly investing a set amount—a practice called dollar cost averaging—enables participants to buy more shares during downturns when prices are lower. Plan participants can even increase their contributions during downturns to take advantage of more attractive prices. Over time, dollar cost averaging lowers the average price employees pay for their investments, better positioning them to benefit from the long-term power of compounding—earnings on contributions and reinvestments—and preparing them for a more positive outcome.

An automated investment plan can prevent participants from exiting the market at the wrong times. The history of markets shows that most gains over time occur in short periods that are difficult to predict. By missing the 20 best market days over the last 20 years, for example, a participant would have given up more than two-thirds of the gains enjoyed by those who remained invested. It can take years and added risk to recover from such shortfalls. Over time, buying low and staying the course through automatic payroll deductions can improve retirement readiness.

401(k) plans also promote investment diversification—an essential element of making it through a market downturn—by offering investment options that spread contributions across a variety of asset classes, investment styles, and market capitalizations. Because not all investments move in lockstep, diversification can lead to more consistent returns by mitigating the risk of one or several poor-performing investments that would otherwise derail a portfolio.

A wide choice of 401(k) investment options enables participants to build diversified portfolios appropriate to their risk tolerance, which should lessen the urge to sell during periods of heightened market volatility. Participants can tailor their own portfolios; alternatively, participants needing more guidance can choose to contribute to managed accounts, which are personalized portfolios overseen by professional investment advisors. Some plan providers may also offer financial counseling to help participants develop strategies for managing through market downturns effectively.