How much should I be contributing to my 401k given my employer's contribution?

Question

I realize that this is similar to at least one question here, however, there are some differentiators.

I can contribute a max of 5% of my net salary to the 401k fund. The employer matches 50% of whatever I contribute. So at most, the employer will be contributing 2.5% of my salary.

Questions:

1. Should I be contributing the max to achieve the best bang for the buck?
2. How should I split the money? My employer is setup with Fidelity and they have a bunch of funds of which I know little about. In the past, I've basically picked 10 funds and gave each fund 10% of the contribution. That didn't really turn out all that well. I got murdered in both .com bubble and the 2007/2008 meltdown. What should I be looking at?

Answer 1

JoeTapayer has good advice here. I would like to add my notes.

If they give a 50% match that means you are getting a 50% return on investment(ROI) immediately. I do not know of a way to get a better guaranteed ROI.

Next, when investing you need to determine what kind of investor you are. I would suggest you make yourself more literate in investments, as I suggest to anyone, but there are basic things you want to look for.

If your primary worry is loss of your prinicipal, go for Conservative investments. This means that you are willing to accept a reduced expected ROI in exchange for lower volatility(risk of loss of principal). This does not mean you have a 100% safe investment as the last market issues have shown, but in general you are better protected. The fidelity investments should give you some information as to volatility or if they deem the investments conservative.

Conservative investments are normally made up of trading bonds, which have the lowest ROI in general but are the most secure. You can also invest in blue chip companies, although stock is inherently riskier. It is pointed out in comments that stocks always outperform bonds in the long term, and this has been true over the last 100 years. I am just suggesting ways you can protect yourself against market downturns. When the market is doing very well bonds will not give you the return your friends are seeing.

I am just trying to give you a basic idea of what to look for when you pick your investments, nothing can replace a solid investment adviser and taking the time to educate yourself.

Answer 2

You can only contribute up to 5% of your salary? Odd. Usually 401(k) contributions are limited to some dollar amount in the vicinity of $15,000 or so a year. Normal retirement guidelines suggest that putting away 10-15% of your salary is enough that you probably won't need to worry much when you retire. 5% isn't likely to be enough, employer match or no. I'd try to contribute 10-15% of my salary. I think you're reading the rules wrong. I'm almost certain. It's definitely worth checking. If you're not, you should seriously consider supplementing this saving with a Roth IRA or just an after-tax account.

So. If you're with Fidelity and don't know what to do, look for a target date fund with a date near your retirement (e.g. Target Retirement 2040) and put 100% in there until you have a better idea of what going on. All Fidelity funds have pretty miserable expense ratios, even their token S&P500 index fund from another provider, so you might as let them do some leg work and pick your asset allocation for you. Alternatively, look for the Fidelity retirement planner tools on their website to suggest an asset allocation.

As a (very rough) rule of thumb, as you're saving for retirement you'll want to have N% of your portfolio in bonds and the rest in stocks, where N is your age in years. Your stocks should probably be split about 70% US and 30% rest-of-world, give or take, and your US stocks should be split about 64% large-cap, 28% mid-cap and 8% small-cap (that's basically how the US stock market is split).

Answer 3

For your first question, the general guidelines I've seen recommended are as follows:

1. Max out your employer's match. In your case, put the 5% in and voila! You've made 50% already!
2. Max out an IRA account. There's a lot of arguments for Traditional vs. Roth, but since you can only contribute a certain amount per yer, you should do it now (especially if you're pursuing the Roth option and don't have a Roth 401k available). Consider reading this link for an argument why Traditional might be better than Roth.
3. Max out your 401k (if possible; I know I don't have the extra $15k/year sitting around)
4. Consider putting any remaining funds into your mortgage if you have one; it's like getting a guaranteed X% over the remainder of the loan where X is your mortgage interest rate, which makes your retirement cheaper by time you get there.

As to your second question, portfolio management is something you should familiarize yourself with. If you trust it to other people, don't be surprised when they make "mistakes". Remember, they get paid regardless of whether you make money. Consider how much any degree of risk will affect you. When starting out, your contributions make up most of the growth of your accounts; now is the time when you can most afford to take higher risk for higher payouts (still limiting your risk as much as possible, of course). A 10% loss on a portfolio of $50k can be replaced with a good year's contributions. Once your portfolio has grown to a much larger sum, it will be time to dial back the risk and focus on preserving your capital.

When choosing investments, always treat your porfolio as a whole - including non-retirement assets (other investment accounts, savings, even your house). Don't put too many eggs from every account into the same basket, or you'll find that 30% of your porfolio is a single investment. Also consider that some investments have different tax consequences, and you can leverage the properties of each account to offset that.

Answer 4

First - yes, take the 2.5%. It could be better, but it's better than many get.

Second - choosing from "a bunch" can be tough. Start by looking at the expenses for each. Read a bit of the description, if you can't tell your spouse what the fund's goal is, don't buy it.

Answer 5

Contribute as much as you can.

When do you want to retire and how much income do you think you'll need? A $1M portfolio yielding 5% will yield $50,000/year.

Do some research about how to build a portfolio... this site is a good start, but check out books on retirement planning and magazines like Money and Kiplinger. If you don't speak "money" or are intimidated by investing, look for a fee-based financial advisor whom you are comfortable with.