If you’ve looked at the investment options in your 401(k) retirement plan at work, chances are you’ve seen mutual funds that invest your money in stocks, bonds, or cash and quasi. -species. These are the options available since the introduction of 401(k) plans in 1978. Now, a new study from Georgetown University’s Center for Retirement Initiatives finds that adding alternative investments to the mix would boost 401(k) returns. (k) 8% in the long term. Here’s what you need to know.
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The study by the Center for Retirement Initiatives at Georgetown University indicates that the improved diversification offered by the inclusion of alternative assets in the portfolios of 401(k) and similar defined contribution pension plans could offer better returns and better retirement income for millions of working Americans. .
Alternative investments include a range of options from hedge funds and commodities to collectibles and structured finance products, such as credit default swaps and secured debt securities.
In this case, the Georgetown study focuses on three alternatives: real estate, private equity funds and private credit. And he looked at how adding these alternative assets to target date funds (TDFs) could significantly boost your retirement savings.
“The expanded TDF, which includes allocations to private equity, real assets and private credit, further improves long-term retirement income expectations and worst case outcomes by 8% and 6%, respectively,” said concluded the study.
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Why more than 401(k)s are investing in TDFs
Target date funds are a type of mutual fund that adjusts the asset mix and risk profile of the fund over time, moving from a more volatile, stock-heavy mix in the early years to a more stable portfolio as the fund’s target date approaches.
This investment typically focuses on a specific year in which an investor is expected to start withdrawing money in retirement, such as the Vanguard Target Retirement 2035 Fund.
Since the signing of the Pension Protection Act of 2006, employers have been allowed to automatically enroll workers in workplace 401(k) retirement accounts, with that money paid into a default investment alternative. qualified, which generally uses target date funds. The result has been an increase in the use of these funds.
According to the report, at the end of 2021, “64% of Vanguard plan participants were solely invested in a default investment program, up from 7% at the end of 2004. Of auto-enrollment plans…98% chose a fund to target date. by default.
Target date funds will see even more activity now that the recently signed Secure 2.0 Act has been signed. Starting in 2025, companies that add a new 401(k) and 403(b) plan will be required to automatically enroll their workers, with a minimum contribution rate of 3% to 10%. The minimum contribution amount will increase by 1% each year up to 15%.
Benefits of adding alternative investments to your TDF
The study points out that alternative investments can have many benefits, ranging from higher returns to inflation protection and reduced portfolio risk.
Real estate, for example, can provide high inflation-sensitive income and capital appreciation. Private equity, by comparison, could offer higher long-term returns because these investments are made in fast-growing private small and medium-sized companies. And private credit, like bonds and securitized loans, could offer investors higher returns with lower overall risk.
And while TDFs are growing in popularity, the study also recognizes that the investment design of DC plans must continue to evolve to support growth, smooth risks and improve retirement incomes for workers.
“DC plans are still not realizing their full potential because the investment of contributions is allocated almost exclusively to public stocks, investment grade bonds and cash,” the study says. “Because plan participants fully absorb gains and losses in their accounts, market events can significantly affect their ability to retire.”
Conclusion
New research from the Center for Retirement Initiatives at Georgetown University finds that adding alternative assets to 401(k) portfolios and other defined-contribution retirement plans could offer better returns and retirement income improved for millions of American workers. But there is still room to support growth and minimize risk for retirement investors.
Retirement Planning Tips
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If you’re looking for different ways to invest for your retirement, here are 13 financial investments and examples to consider in 2023.
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