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From all of the hoopla surrounding it, day trading seems
to be a way to make a quick buck. What better way to quickly build your retirement
portfolio? That's the wrong attitude to take, financial planners say.
Your retirement portfolio is the foundation
that will provide for you in your later years. You don't want to use a risky investment
strategy that opens you up to potentially big losses.
"I'm 50 years old, earn $50,000 a year and have
$10,000 in my 401(k) plan. I have three children (ages seven, 12 and 14) to put through
college (with scholarship help, of course). Do you think online day trading or other risky
things would be a viable move for me? Any suggestions you could give me to rapidly build
up my retirement funds would be greatly appreciated."
That was the e-mail message that popped into our inbox last
month, to our dismay.
With more employers offering brokerage-window investment
options in their 401(k)s — and with the rise of toll free numbers and/or Internet
access to easily change account allocation — the temptation is greater than ever for
plan participants to day trade the market in their 401(k)s.
Day trading entails moving in and out of investments
frequently, often several times a day, seeking quick profits. This isn't possible in
mutual funds, which are only valued once a day. But brokerage windows make day trading
possible in a 401(k), and they are becoming more widespread. Fourteen percent of company
retirement plans, such as 401(k)s, offer them, up from eight percent in 1999 and five
percent in 1998, according to Boston consulting firm Cerulli Associates. Another nine
percent of the employers surveyed plan to add this feature soon.
But, day trading (especially in a 401(k)) isn't a sound
strategy for building your retirement balance, financial planners say.
"I don't believe in day trading at all. I've never
seen anyone make any money at it," said Certified Financial Planner Ben Utley,
founder of Utley & Associates of Eugene, Ore.
An Investment Moral
Many of you may recall the fable of the tortoise and the
hare. Its moral (slow and steady wins the race) is particularly appropriate for retirement
saving.
Gary Learned, a 52-year-old worker at GE Co., recounts the
tale of a co-worker who readjusts his portfolio at each of the 12 investment changes
allowed per year. "He switches in and out of GE stock, based on what he thinks the
stock will do," Learned said.
Sometimes his friend has done well, sometimes not. "I
saw him get caught short," and lose several thousand dollars, Learned said.
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"Your retirement should clearly
be a long-term investment. Day trading doesn't fit that category."
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| — Robert
Weagley, a certified financial planner and associate professor of consumer and family
economics at the University of Missouri. |
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"Your retirement should clearly be a long-term
investment," said Robert Weagley, a certified financial planner and associate
professor of consumer and family economics at the University of Missouri. "Day
trading doesn't fit that category."
How long is long term? About 30 to 40 years, said David
Wray, president of the Profit Sharing/401(k) Council of America. "Long-term investing
is a consistent investment decision. You make a … plan and stick with it. It's not
about making (snap) judgement," he said.
The reason to employ a sound asset allocation strategy in
the first place is because most of us can't read a crystal ball and pick the next market
winner. By using a balanced allocation approach, you will be saved from the pressure of
trying to pick the next hot sector or stock. Also, by hopping around, you may miss out on
some big returns, as the chart below shows.
"We (investors) need to have money bet on every horse
in the race. We never know who's going to win before the race starts," Weagley said.
When you day trade, you're often placing a one-time bet on
one specific security. If you win, you could win big. If you lose, you could lose big.
Consequently, you could be substantially increasing the risk in your portfolio.
While long-term investing isn't terribly exciting, over
time the steady returns this strategy can generate stand a good chance of beating the more
volatile results from day trading, financial planners say.
Utley urges his clients to think of their retirement
portfolio as their own business. "The good ones make money. But, businesses aren't
exciting every day," he said.
The moral: Once you've set up your investment strategy, leave it
alone.
Two Strikes
Participants thinking about day trading their 401(k) plans
should realize they have two factors stacked against them, Utley said.
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"If 7,000 pros on Wall Street
can't do it, someone who (just) learned how a limit order works shouldn't do it."
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| — Ben Utley,
certified financial planner and founder of Utley & Associates of Eugene, Ore. |
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The first is that even professional fund managers shun day
trading. Case in point: there's no "day trading" mutual fund. "If 7,000
pros on Wall Street can't do it, someone who (just) learned how a limit order works
shouldn't do it," Utley said.
The second strike against day trading is high trading fees.
"Transaction costs will eat you alive," he said.
That's particularly true with 401(k) brokerage window
accounts. Most charge an annual maintenance fee plus transaction fees. Suppose you have a
brokerage window account with a discount broker that charges a $10 per transaction
commission. That means any trade you make must appreciate $20 before you make a profit (to
offset the $10 fee to sell and the $10 fee to buy something else).
Every Day Trading
It's impossible to day trade a mutual fund. Mutual fund
prices are set once a day, at the end of trading, when the fund company runs what is known
as the net asset value or NAV. Of course, if your plan has a brokerage window option, you
could day trade market indexes by buying and selling exchange-traded funds such as SPDRs
(Spiders), which track the Standard & Poor's 500 Index, or Diamonds, which track the
Dow Jones Industrial Average. But, again, financial planners discourage this strategy
because you are chasing funds that are currently the hottest.
A cousin of day trading is daily adjustment. Many 401(k)
plans offer their participants the opportunity to change their holdings on a daily basis.
Again, with easy account access, the temptation can be high to micromanage your retirement
portfolio. That's still a bad idea, financial planners say.
Even with plans that offer less access, chasing after hot
performers usually results in "inferior performance," Weagley said.
If You Gotta Do It
"Yeah, yeah," you say. "I'm careful. And I'm
not those losers."
Financial planners realize many investors do have the urge
to trade. So, they suggest opening a trading account outside your retirement plan. If you
don't have the means to do this, trade with a small enough proportion of the money inside
your 401(k) that you won't irrevocably hurt your portfolio should you make a bad
investment.
CPA Ed Slott has a client who likes to day trade his
retirement account. When the client's wife told Slott she was worried that her husband
might trade away their retirement nest egg, the three sat down and found a solution. They
took about 10 percent of the portfolio and set it aside for "play money," said
Slott, the editor of Ed Slott's IRA Advisor newsletter.
"That seemed to work," Slott said. "That
kept his wife happy. She was right, if he lost the money, what would he do in
retirement?"
Think Like a Pro
Whether you're planning to day trade or to take the
slow-but-steady approach, you will stand a greater chance of success in reaching your
retirement dreams if you think and act like a professional money manager.
These guys don't buy or sell a stock on a whim. One of the
signs of respectable money managers is that they don't act emotionally toward the money
they oversee. "Emotion is the enemy of all good investors," Utley said.
Separating from emotion is hard to do. That's why
professional investors conduct thorough research. That means keeping up on the news of
their investments and making logical, fiscally responsible choices.
Indeed, when Utley's clients come to him with a hot
investment tip, he doesn't scoff. "I take them (the tips) as a starting point,"
he said.
He checks out earnings and the company's business model. He
takes time to reflect on the investment, then decides whether it makes sense or not.
"My thought is that there has never been a quality fiduciary decision that was made
in haste," he said. |
