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So Much For The Buy And Hold Investor

Finance: 401(k)s


On Oct. 27 and 28, a lot of 401(k) money moved in and out of stocks

Investment patterns in 401(k) retirement savings plans are highly predictable. Participants are firmly focused on some far-off investment horizon. They are the ultimate buy-and-hold investors. And they never try to time the market.

Such homilies may have seemed true months back, but an analysis of the two weeks following the stock market's 554-point plunge on Oct. 27 and its subsequent 337-point gain on Oct. 28, reveals a different reality. Around those two days, participants, usually inattentive to daily changes in balances, surprised plan administrators with a deluge of phone calls. The level of transaction activity--such as switching between funds--often spiked up to three, four, even six times normal levels. The percentage of assets moving out of diversified equity funds, in one sample pool of 401(k) plans, amounted to almost half of 1%. Is that such a big deal? In percentage terms, it's more significant than the $29 billion in dollar volume of trading on the New York Stock Exchange on Oct. 27. Considering the NYSE's total market capitalization of $8.7 trillion, $29 billion is just one-third of 1%.

LITTLE LOAD. The conventional view is that 401(k) investors hold fast in the face of market unrest. But money in many plans tended to move with the market. There's little or no fee charged for switching 401(k) funds, and in contrast to selling stock or mutual funds, there are no taxes to be paid. With the market's sharp downturn limited to one painful day, the dollar volume of transactions didn't have a large impact. But if that pattern had held in a prolonged downturn, 401(k) participants would have exacerbated the market decline.

An analysis by benefits consultant Hewitt Associates, which administers plans for mid- and large-size companies, looked at a $50 billion pool of money representing 40 companies with plans that are revalued daily. On Oct. 27, trading increased to more than four times the average level of the previous 20 days. Some $82 million moved out of diversified stock funds, mostly out of the plan's big-cap U.S. equity funds, and into more conservative investments. The next day, $101 million shifted, primarily out of conservative options, into company stock and international funds, as people tried to catch the bottom of the market.

The pattern was different when it came to 401(k) money invested in the employee's company stock. Hewitt tracked only $810,670 flowing out of such funds on Oct. 27. But the next day, as the market rallied, $56.8 million flowed into company stock.

Catching the bottom didn't work for callers to automated lines after 3:35 p.m. on Oct. 27. Since the stock market closed 25 minutes early, those trades would not be executed on Monday's close, but at Tuesday's close. All trades are executed at the end of the trading day. "We called our client companies and said if you want us to, we'll call employees and give them the option of canceling that move," says Hewitt spokesperson Monica M. Gallagher. About 80% of those contacted said to cancel their Monday sell orders. Clearly, they were not making long-term decisions.

Some future retirees are very savvy about timing. "People were almost playing intraday trading with their accounts on Oct. 27 and 28," says John McGlone, a principal at Buck Consultants. "You could call in a transaction early Monday and then at 3:50 decide that the market was down and either let it ride or revoke the trade." Between 3 p.m. and 4 p.m., "we were hammered with people adjusting their positions," he says.

NET MOVES. Phone calls weren't the only way people tried to effect trades. New York Life Benefit Services Inc., a 401(k) provider to 250,000 plan members, compared average activity on their Internet site on Oct. 27 and 28 against September's daily average. Hits seeking account information rose 600%; use of the site to switch among funds rose 500%.

Once the dust settled after Oct. 28, the overall move was into equities. At Fidelity Investments, which manages $220 billion in 401(k) assets, $100 million, a slightly above-average daily amount, moved out of equities on Oct. 27. The following day, $500 million moved into equities. Transactions were up 50% over the normal rate but have since moved back to normal. Robert L. Reynolds, who heads the 401(k) business at Fidelity, downplays the action: "At a time when people could have taken action, given all the press coverage, participants didn't do much."

People in 401(k) plans, in fact, did a great deal. If the market hadn't quickly reversed, they may have done a great deal more. "One of our suspicions is that people with higher balances were more likely to call and more likely to do something," says Bill McNabb, who heads The Vanguard Group's institutional investor business. "I suspect that those people are closer to retirement, so they are probably watching the market more closely." Vanguard prides itself on educating its 1.5 million 401(k) plan participants to take the long view. But, says McNabb, "we need a more prolonged downturn to see if our educational programs have been effective."

While Wall Street paints 401(k) members as indifferent to short-term swings, the evidence of a few days in October suggests the opposite. They appear far more attuned to the ebbs and flows of the market than the experts realized.By Suzanne Woolley in New York

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