Money Health

What is a 401k Plan?

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Yesterday I got a package in the mail labeled “Time Sensitive Transition Information Enclosed.” Since it was larger than a regular sized envelope and not from a bill collector, I quickly rushed to tear it open. After a cursory read with the words 401K plan, risk, diversify, vest, and blackout period popping out at me, I suddenly felt like I was in calculus with Charlie Brown’s teacher. In other words, what on earth do all these terms mean?

To put it succinctly, a 401K plan is essentially a savings account in which you invest your money so that you don’t have to live on social security or cat food by the time you retire. Like all savings accounts, the longer you save and the more you put in, the more your nest egg will grow, right?

Well, kind of…

What I failed to grasp before yesterday’s notice is that it pays to diversify your 401K with a healthy mixture of stocks, bonds, and other financial instruments. For instance, to diversify one’s portfolio basically means to have a healthy array of little investments in all types of securities, like a colorful pie chart, or those frozen cheesecakes at Trader Joes that have a mixed variety of plain, tuxedo, chocolate chip, and triple chocolate.

It pays to diversify your 401K with a healthy mixture of stocks, bonds, and other financial instruments.

Depending on your financial savoir-faire, you can choose to diversify your portfolio with low volatility (bonds) or high volatility (stocks). Perhaps you want to divvy up your 401K with 70% stocks and 30% bonds. You then must diversify your portfolio within these categories.  For instance, you don’t want to invest your entire 401K into one type of stock, like healthcare or financial services, in case one of those industries goes bonkers, à la 2008.

This is the point where the light bulb went off in my head, as before yesterday the term ‘diversified portfolio’ gave me visions of waiters in Los Angeles with an eclectic mix of head shots hidden behind each menu. While researching 401K plan options are not nearly as sexy and glamorous as getting a coveted role on General Hospital, the end result in both instances should involve you making more money.

To be frank, the only appetites that are whetted by 401K plan talk are those of financial planners, Suze Orman, and human resource personnel; the latter of which is mostly feigned interest to give hope to employees. But if one wants to get in control of their finances, one must pull up their sleeves and get a little dirty with financial terminology. I suggest for an elementary understanding. After this base knowledge, you can scour all over the web for tips on how to diversify your portfolio.

As I am only 27, I have a lot of time left to save up for that glorious retirement, but, as many finance websites will tell you, it’s never too soon to start saving, and diversifying.

And remember, you’re not the only one who’s confused.