Sunday, March 26, 2006

Too Much of a Good Thing - Investing 401(k) Assets in Company Stock

According to an article in today's Chicago Tribune, workers continue to load up 401(k)'s with company stock. Here are some interesting excerpts from the article.

Despite many Enron workers losing sizable nest eggs when the company went bankrupt--and the constant drumbeat from financial advisers on the benefits of diversification--it appears many employees of large firms are continuing to pack their 401(k) plans with company stock.

In a 2005 report on 401(k) plans by Lincolnshire, Ill.-based Hewitt Associates that looked at more than 2.5 million eligible employees, company stock was the single largest holding for the average participant. Large U.S. equity funds came in second, Hewitt said.

"Familiarity tends to breed complacency," said Christopher Jones, chief investment officer at Financial Engines, a Palo Alto, Calif.-based provider of 401(k) managed accounts. "Employees feel more comfortable with the stock because they know the managers, know the CEO. ... But unlike a mutual fund, individual companies can go bankrupt, like those employees of Enron, WorldCom and Global Crossing" can attest.

Even with blue-chip companies, if you compare the performance of a randomly picked stock from the Standard & Poor's 500 with that of the S&P 500 index over the long term, the index would do better two-thirds of the time, Jones said "If it declines 20 to 25 percent, that's a really bad year for the S&P 500, but individual companies go down 20 percent all the time," he said.

The performance of an individual 401(k) also depends on what is done with the rest of the money. Nevertheless, "It would be more reasonable to hold 5 percent to 10 percent company stock, and spread the rest of the portfolio, and investment risk, across different asset classes," Jones said.

For further information on how to approach 401(k) allocations, see NASD's investor learning center at its Web site (

I have to confess that I'm kind of surprised by the results of Hewitt survey. In this day and age, it's scary to think that people are investing the bulk of their 401(k) assets in company stock. Even if you subscribe to Warren Buffet's philosophy of concentrating all of your investments in a handful of good companies, the majority of Americans aren't fortunate enough to work for any of the companies that warrant that type of investment. Admittedly, we don't have the full picture on all of these individuals. We don't know for example, whether these individuals have other diversified investments outside of their 401(k) accounts. So perhaps the company stock represents only a small percentage of their entire net worth. And we don't know whether these individuals are being forced to invest in company stock or whether the alternatives are far worse.

However, if you do have a large chunk of your assets invested in company stock and you do have other choices as to where to invest it, please consider reallocating at least some of those funds.

As for me, I do own some company stock, but it represents only 5% of all of my retirement assets and maybe 2% of my entire investment portfolio. So, my exposure is minimal.

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