Protect Your 401(k) From a Market Crash

Protecting 401(k) from financial market crash

You wouldn't want all the hard-earned money you saved for your 401k retirement account to suddenly be reduced to nothing due to unforeseen circumstances and a market crash. You don't want to suffer from major losses and be disadvantaged. Your retirement savings shouldn't go all in vain.

However, due to the spontaneity of stock market crashes, it is inevitable to not be at risk. This spontaneity causes a conflict for educated decisions too.

However, don't fret! There are some ways to protect your 401(k) from a stock market crash.

In this article ahead, we have shared some ways through which you can avoid suffering due to a stock market crash. Your 401(k) will remain protected and not be heavily negatively impacted through these ways.

How does a stock market crash affect your 401k?

401(k) is an employer retirement plan that allows you to choose from an array of investment options. Despite having investment freedom, your retirement savings can be affected by a stock market crash.

Generally, the investments made in a 401k are in the form of stocks, cash funds, and bonds. And these are prone to price drops.

When you newly open a 401k, most investment is in stocks. Most individual investors invest in stocks because they promise high returns. But in the case of the prices dropping low, this can be a huge advantage, and in the worst case, you can lose years' worth of savings.

What is a stock market crash?

A stock market crash occurs when the stock value declines. Prices tend to fall more than 20% when such a scenario occurs. This kind of event is usually unpredictable; however, in most cases is caused by some economic crisis or financial turmoil.

Stock markets are unforeseeable, and as easily as prices rise, prices drop too. However, a crashing market, also known as a bull market, is different from a declining market, known as a bear market. When a stock market crashes, there is a sudden drop in prices rather than a gradual decrease over time.

How to successfully protect your 401(k) from a market crash?

How to protect your 401(k)

You can't just sit and watch your savings go down the drain due to a sudden crash in the stock market. All the assets that you have stored in your 401(k) should be protected from unexpected accidents, and you should be able to minimize loss.

You can keep in mind many factors to ensure that you can secure your 401(k) account during a market crash. Some of these are as follows:

Diversify your assets and correctly allocate them

Diversify your retirement assets

One major way to protect your retirement assets is by diversifying them. It would be best if you found the right mix of investments for the mutual fund so that you benefit the most from them.

You shouldn't be putting all your investment in one basket only as it can backfire on you. It would be best if you aimed to diversify your 401(k) by investing in alternative assets such as shares, stocks, bonds, mutual funds, and other commodities and cash.

When you choose to invest in stocks, you should ideally prefer high-performing ones. Hence, investing in stocks that promote risk tolerance is better. You should also choose stocks from both US and international markets so that if a single company suffers losses on shares, the adverse events will not impact your retirement fund very badly.

Furthermore, you should invest in bonds because bonds tend to perform better and grow in value when there's a financial meltdown. This is known as the flight to quality.

Additionally, you can also keep cash in your 401(k). However, you should not fill your 401(k) with cash as cash can be disadvantageous and result in loss during inflation.

Diversifying is important because even if the value of one asset falls, it's not possible that the prices of all other assets will fall too. Hence, not keeping all your eggs in one basket will save you from risky accidents.

Therefore, when the market drops, your overall return will still be better than having all your investment in one asset and it dropping low. Investing in a combination of asset classes is a great solution.

Additionally, proper asset allocation strategies are important too. Asset allocation refers to the amount you invest in each type of asset and what are the risks and rewards for it. These risks and rewards are dependent on certain elements such as timing, retirement age, risk tolerance, and personal liking.

Asset allocation can be done in several ways, such as through balanced funds or model portfolios for different types of investments.

If you are unsure how you can allocate assets efficiently, it would be best to contact any financial advisor who can recommend great strategies customized specifically for you.

Less dependency on the employer

You should not invest too much in your employer's company stock regardless of their financial condition. Supposing you invest majorly in the company stock you are working for and suddenly the company is heavily affected by a market drop, your retirement savings will suffer too then.

Moreover, don't buy company stock you work for solely because you work there. Rather, do some research and check out your company's financial situation.

A practice that generally works well is not investing more than 5 or 10% of the 401(k) funds in company stock.

Portfolio rebalancing is important

It is crucial to rebalance your portfolio. You can do this by modifying the amount you have in each asset.

This is significant because some investments might do better than others as time passes. You can align your money invested in stocks and bonds to what it initially was through rebalancing.

You should habitually maintain your 401(k) plan. If the stock market's share of total assets exceeds a certain percentage, say 60-70%, then the danger of losses in a market crisis increases. To restore the balance, investors should sell stocks and buy bonds. This balance will help them effectively preserve their 401(k) before a crisis.

A way you can ensure balance in your portfolio is by investing in conservative investments such as bonds, treasuries, and money markets and aggressive.

One seamless way how investors can rebalance their portfolio is through target-date funds. For more control over your investments, a good practice is to maintain asset allocation and check fund balance regularly. Furthermore, it would help if you took advice from any financial planner.

Assess your risk

Don't forget to calculate your risk before you start growing your 401(k) retirement funds. Suppose you know that your portfolio will not be able to handle a certain percentage of drop, then you should reconsider what investment options you need to choose more than the others.

Keep some cash

It would be beneficial to have some cash with you too. It is recommended to have expenses in cash or any cash equivalents for a few years.If you have cash on your hand, you won't have to worry about withdrawing earlier and paying unnecessary fees.

Do not withdraw early when the market crashes

One mistake many people make is that as soon as an adverse economic event occurs and prices plummet, people, out of fear, start withdrawing their money from the 401(k) even if they are not of the retirement age by then. This is not very advantageous, as when you withdraw before the retirement age of 59 and a half, you will be subject to penalties, and you will have to pay extra dollars.

Hence, giving in to the feelings of panic and terror can backfire on you. You will be subject to IRS tax penalties for withdrawing early.

Rather, you should brave through the storm of low prices and market uncertainty and be rewarded once the market is on its road to recovery in the future.

Continually contribute to 401(k)

One of the best practices to protect your 401(k) from accidents and market volatility is to unwaveringly contribute to your 401(k) account even when a financial market meltdown occurs.

If you hold back from contributing during catastrophic events, you may lose the opportunity to invest in assets offered at a much lower rate. And these same assets can promise greater returns once the market recovers.If you continually contribute to a 401(k), let's suppose every month, despite the market situation, you can benefit from buying stocks at a lower price. This purchase will also balance out the purchase of stocks you got at a higher price. And this method is known as the dollar-cost averaging.

You can aim to buy at a lower price during the market crash and then sell at a higher price. Additionally, if you keep on adding contributions, the contributions from your employer will also be greater. Hence, more free money. This way, you won't just protect your 401(k) from a market crash; instead, you will be able to grow your retirement funds.

Moreover, even when your safer investments are more than enough, according to you, you should still undeviatingly contribute to the 401(k) account.

Wrapping Up

Stock market crashes are unexpected. However, you need to be ready to face them and successfully protect your 401(k) investment plan from them. It would help if you preserved your savings to live your golden years in peace and have a comfortable retirement.

Due to the adverse effects of a market crash, there is always a risk of losses. Hence, you need to have proper planning to ensure that you can secure your 401(k) and that the thousands of dollars that you worked so hard to save don't just disappear.

There are many measures you can take to ensure the safety of your mix of assets, and we have stated some ways you can do so in this article.

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