My employer has a mediocre retirement plan. How do I make the most of it?

·4 min read

The options within my employer's retirement plan don't seem that great. There are a few funds that I've never heard of, and then there's a bunch of funds with different years like 2030, 2035, and 2040. I'm currently 45 years old and want to make sure my investments are diversified.

I've got my money divided between the 2035 fund, the 2045 fund, and the 2050 fund. Would you recommend I look at the individual funds too? I think there's a small companies fund in there, and I have a co-worker who says it's pretty good. I plan on retiring at the normal retirement age.

– Jim, Detroit

With about 20 years left, you're wise to take a critical look at your investment strategy, Jim. Like many people, it appears you're doing a few things correctly, and there's a couple of errors worth clearing up. Let's start with what you've gotten right.

Diversification is very important. Not only can it help you manage market risk, but it can also smooth out bumps along the way. Volatile account value swings can cause unnecessary and unproductive financial stress which may lead to impulsive investing mistakes. Investors often get enamored with certain funds or asset classes and then assume they should just keep increasing their allocation of those particular funds or classes. It appears you haven't fallen for that very common mistake.

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The second thing you've done very well is you've come to terms with your investment time horizon. As you've indicated, you have roughly 20 years until you might consider drawing income from your retirement nest egg. This knowledge should impact your current investment decisions, and as your time horizon shrinks (you get closer to needing your money), your investments should likely shift to accommodate your evolving reality.

Before we get to a few recommended changes, what I don't know is whether or not you're on track to retire when and how you want to. The most important factor of your retirement plan is how much you're contributing on a regular basis, not necessarily the specific investments you're choosing. If you're not putting in enough fuel, your plan will most certainly fail. Your plan most certainly needs some tweaks, but be sure to verify whether or not you're contributing enough of your income to the plan.

The first recommended change isn't necessarily a change; it's more of a logic adjustment. Don't get distracted by the fact that you haven't heard of any of the funds within your retirement plan. I don't know who the best Korean actress of all time is, but that doesn't mean she isn't amazing. Unless you're an expert-level investor, it's highly unlikely you've heard of the specific funds within your retirement plan, and your unfamiliarity with them is inconsequential and doesn't make them inherently low-quality.

The next recommended correction is a much bigger deal. Target-date funds, the "funds with different years," aren't designed to be combined with other target-date funds. They are designed to be a stand-alone solution.

Theoretically, you could combine a target-date fund with an individual fund or two, but utilizing more than one target-date fund within a portfolio can produce unintended consequences from a risk and efficiency perspective. I like to think about it as I think of pre-bottled marinades. They're designed to be a simple solution, and combining different varieties creates more problems than it solves.

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A new Vanguard study shows 2% of investors utilize more than one target-date fund within a portfolio. That's not the 2% you want to be a part of. Target-date funds are specifically designed to not only be wholly diversified investments but also to evolve over time as an investor gets closer to their retirement age.

Target-date funds are an excellent option for investors who don't have the time and/or ability to properly tend to their portfolios. I know choosing individual investments is exciting and it feels like you're directly involved in your success, but sometimes the boring approach is the more prudent approach.

Finally, your co-worker's feelings on a particular investment should not have a bearing on your investment decisions. Even if the person is a more experienced investor than you, that person likely has different personal finances and a different risk tolerance.

Generally speaking, investment professionals know how to recommend suitable investments based on several factors, while co-workers are understandably making their judgment through their own personal lens.

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This article originally appeared on USA TODAY: Investing: How to make the most of a mediocre employer retirement plan