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Background: I'm a young 20-something, I won't be retiring for 40+ years, and the expense ratios for the funds offered in my company's 401(k) plan mostly suck. The company matches 35% of my contributions up to a limit. The plan doesn't offer a large cap fund.

I understand that one of the reasons an all-stock portfolio isn't recommended is because of the volatility, though stocks will provide some of the best long-term returns. Considering my scenario, what drawbacks would I have were I to solely invest in stock-based funds? (going by expense ratios, my only viable choices are Vanguard mid-cap at 0.24% and Vanguard small-cap at 0.30%)

This question appears to be related: If low-cost index funds are considered the best investment, why are there so many high-cost, managed funds?

JohnFx
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Bigbio2002
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3 Answers3

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At your age, I don't think its a bad idea to invest entirely in stocks. The concern with stocks is their volatility, and at 40+ years from retirement, volatility does not concern you. Just remember that if you ever want to call upon your 401(k) for anything other than retirement, such as a down payment on a home (which is a qualified distribution that is not subject to early distribution penalties), then you should reconsider your retirement allocations. I would not invest 100% into stocks if I knew I were going to buy a house in five years and needed that money for a down payment.

If your truly saving strictly for a retirement that could occur forty years in the future, first good for you, and second, put it all in an index fund. An S&P index has a ridiculously low expense ratio, and with so many years away from retirement, it gives you an immense amount of flexibility to choose what to do with those funds as your retirement date approaches closer every year.

Jesse
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The advantage of being young is not that you can take the "safest" path from the beginning instead of catching it up mid-life, the real advantage is that you have plenty of time to recover from your errors.

The investment goes the same way.

Your investment has a lot of time, so it has a lot of time to recover from the swings of the stock-market.

You can take the "risky" all stocks fund.

EarlGrey
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I've read a nice rule of thumb somewhere that you should consider:

You should invest (100-YOURAGE)% of your money in stock

The rest should be something less volatile and more liquid, so you have some money when the stock market goes down and you need some money nevertheless.

So you would start with buying about 75% stock and balance your stock percentage over time by buing more secure assets to keep the stock percentage at the desired level. At some time you might need to sell stock to rebalance and invest in more secure assets.

Note: That's a general rule of investment and doesn't consider 401(k) laws like restrictions on getting the money before retirement. In case the 401(k) money is locked up, you can put the 401(k) money in stocks and have the non-stocks part of your strategy outside of 401(k) at the beginning. As you age you would most likely need to rebalance your 401(k) money to include non-stock as well to achieve the lower stock ratio suggested for higher age.

Jan Bühler
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