401k Option - Lifecycle or S&P Index - what are pros and cons?
I think we resolved this via comments above. Many finance authors are not fans of target date funds, as they have higher fees than you'd pay constructing the mix yourself, and they can't take into account your own risk tolerance. Not every 24 year old should have the same mix.  That said - I suggest you give thought to the pre-tax / post tax (i.e. traditional vs Roth) mix. I recently wrote The 15% solution, which attempts to show how to minimize your lifetime taxes by using the split that's ideal for your situation.
"Index funds are well-known to give the best long-term investment. Not exactly. Indexes give the best long term performance when compared to actively managing investments directly in the underlying stocks. That is, if you compare an S&P500 index to trying to pick stocks that are part of it, you're more likely to succeed with blindly following the index than trying to actively beat it. That said, no-one promises that investing in S&P500 is better than investing in DJIA, for example. These are two different indexes tracking different stocks and areas. So when advisers say ""diversify"" they don't mean it that you should diversify between different stocks that build up the S&P500 index. They mean that you should diversify your investments in different areas. Some in S&P500, some in DJIA, some in international indexes, some in bond indexes, etc. Still, investing in various indexes will likely yield better results than actively managing the investments trying to beat those indexes, but you should not invest in only one, and that is the meaning of diversification. In the comments you asked ""why diversify at all?"", and that is entirely a different question from your original ""what diversification is?"". You diversify to reduce the risk of loss from one side, and widen the net for gains from another. The thing is that any single investment can eventually fail, regardless of how it performed before. You can see that the S&P500 index lost 50% of its value twice within ten years, whereas before it was doubling itself every several years. Many people who were only invested in that index (or what's underlying to it) lost a lot of money. But consider you've diversified, and in the last 20 years you've invested in a blend of indexes that include the S&P500, but also other investments like S&P BSE SENSEX mentioned by Victor below. You would reduce your risk of loss on the American market by increasing your gains on the Indian market. Add to the mix soaring Chinese Real Estate market during the time of the collapse of the US real-estate, gains on the dollar losing its value by investing in other currencies (Canadian dollar, for example), etc. There are many risks, and by diversifying you mitigate them, and also have a chance to create other potential gains. Now, another question is why invest in indexes. That has been answered before on this site. It is my opinion that some methods of investing are just gambling by trying to catch the wave and they will almost always fail, and rarely will individual stock picking beat the market. Of course, after the fact its easy to be smart and pick the winning stocks. But the problem is to be able to predict those charts ahead of time." "See if they offer a ""Target Date"" plan that automatically adjusts throughout your career to balance gains against preserving what you've already built up.  You can adjust for more or less aggressive by selecting a plan with a later or sooner target date, respectively. (But check the administrative fees; higher fees can eat up a surprisingly large part of your growth since they're essentially subtracted from rate of return and thus get compounded.) If they don't have that option, or charge too much for it, then yes, you may want to adjust which plan your money is in over time; you can usually ""exchange"" between these plans at no cost and with no tax penalty. NOTE: The tax-advantaged 401(k) investments should be considered in the context of all your investments. This is one of the things an independent financial planner can help you with. As with other investment decisions, the best answer for you depends on your risk tolerance and your time horizon." No I get that.  But if you don’t want risk, then buy bonds.  Long term an S&amp;P Index has very low risk.  On the other hand, actively managed funds have fees that take out a ton of the gain that could be had.  I don’t have time to look for the study but I read recently that 97% of actively managed funds were outperformed by S&amp;P Indexes after fees.  Now I don’t know about you but I think the risk of not picking a top 3% fund is probably higher than the safe return of index’s. I don't think it has to be either-or. You can profitably invest inside the SIMPLE. (Though I wouldn't put in any more than the 1% it takes to get the match.) Let's look at some scenarios. These assume salary of $50k/year so the numbers are easy. You can fill in your own numbers to see the outcome, but the percentages will be the same. Let it sit in cash in the SIMPLE. You put in 1%, your employer matches with 1%. Your account balance is $1,000 (at the end of the year), plus a small amount of interest. Cost to you is $500 from your gross pay. 100% return on your contributions, yay! Likely 0-1% real returns going forward; you'll be lucky to keep up with inflation over the long term. Short term not so bad. Buy shares of index ETFs in the SIMPLE; let's assume the fee works out to 10%. You put in 1%, employer matches 1%. Your contributions are $500, fees are $100, your balance is $900 in ETFs. 80% instant return, and possible 6-7% real long term returns going forward. Buy funds in the SIMPLE; assume the load is 5%, management fee is 1% and you can find something that behaves like an index fund (so it is theoretically comparable to above). 1% from you, 1% from employer. Your contributions are $500, load fees are $50, your balance is $950. 90% instant return, and possible 5-6% real long term returns going forward (assuming the 6-7% real returns of equities are reduced by the 1% management fee). (You didn't list out the fees, and they're probably different for the different fund choices, so fill in your own details and do the math.) Invest outside the SIMPLE in the same ETFs or equivalent no load index funds; let's assume you can do this with no fees. You put in the same 1% of your gross (ignoring any difference that might come from paying FICA) into a self directed traditional IRA. At the end of the year the balance is $500. So deciding whether or not to take the match is a no brainer: take it. Deciding whether you should hold cash, ETFs, or (one of two types of) funds in your SIMPLE is a little trickier. "I frequently advise to go 401(k) up to the match. With no match, I'm not so sure.  If you are in the 15% bracket, I'd skip the 401(k). Your standard deduction is $5800 this year, do you itemize? I ask because the 15% bracket ends at $34,500, and I don't know if you manage enough deductions to get under that.  But - I'd only pt into the 401(k) what would otherwise be taxed at 25%, no more. Even then only if the 401(k) expenses were pretty reasonable. Will all the hoopla over retirement accounts, we easily forget the beauty of the investment in ETFs long term. You buy the SPY (S&P 500 ETF) and hold it forever. The gains are all deferred until you sell, and then they have a favored rate. You control the timing of the sale with no risk of penalty. The expenses are low, and over time, can make up for the lack of tax deduction (The pretax deposit) vs the 401(k) account. You die and the beneficiaries have a stepped up basis with no tax due (under whatever the limit is that year).  Long term, I'd go with low cost ETFs and pay the mortgage at the minimum payments. Even without itemizing, 4.2% is pretty low compared to the expected return over the next decade in stocks.  I recommend a look at Fairmark to help understand your marginal rate. Your gross doesn't matter as much as that line on 1040 ""taxable income."" This will tell you if you are in the 25% bracket and if so, how deep.  Edit - If one's taxable income, line 43 on your 1040, I believe, puts him into the 15% bracket, there are issues using a pretax 401(k). The priority should be to use a Roth IRA or Roth 401(k). Being so close to that 25% bracket at 26 tells me you will grow, and/o marry into it over time, that's the ideal time to use the pre-tax 401(k) to stay at 15%. i.e. deposit just enough to bring your taxable income right to that line of 15/25%." The equation you show is correct, you've simply pointed out that you understand that you buy at the 'ask' price, and later sell at the 'bid.' There is no bid/ask on the S&P, as you can't trade it directly.  You have a few alternatives, however - you can trade SPY, the (most well known) S&P ETF whose price reflects 1/10 the value or VOO (Vanguard's offering) as well as others. Each of these ETFs gives you a bid/ask during market hours. They trade like a stock, have shares that are reasonably priced, and are optionable.  To trade the index itself, you need to trade the futures. S&P 500 Futures and Options is the CME Group's brief info guide on standard and mini contracts.  Welcome to SE. Ending up with nothing is an unlikely situation unless you invest 100% in a company stock and the company goes under. In order to give you a good answer we need to see what options your employer gives for 401k investments. The best advice would be to take a list of all options that your employer allows and talk with a financial advisor. Here are a few options that you may or may not have as an option from an employer: Definitions from wikipedia: A target-date fund – also known as a lifecycle, dynamic-risk or age-based fund – is a collective investment scheme, usually a mutual fund, designed to provide a simple investment solution through a portfolio whose asset allocation mix becomes more conservative as the target date (usually retirement) approaches. An index fund or index tracker is a collective investment scheme (usually a mutual fund or exchange-traded fund) that aims to replicate the movements of an index of a specific financial market... An exchange-traded fund (ETF) is an investment fund traded on stock exchanges, much like stocks.[1] An ETF holds assets such as stocks, commodities, or bonds, and trades close to its net asset value over the course of the trading day. Most ETFs track an index, such as a stock index or bond index. ETFs may be attractive as investments because of their low costs, tax efficiency, and stock-like features. The capital stock (or stock) of an incorporated business constitutes the equity stake of its owners. Which one can you lose everything in? You can lose everything in stocks by the company going under. In Index funds the entire market that it follows would have to collapse. The chances are slim here since the index made up of several companies. The S&P 500 is made up of 500 leading companies publicly traded in the U.S.  A Pacific-Europe index such as MSCI EAFE Index is made up of 907 companies. The chances of losing everything in an ETF are also slim. The ETF that follows the S&P 500 is made up of 500 companies. An Pacific-Europe ETF such as MSCI EAFE ETF is made up of 871 companies. Target date funds are also slim to lose everything. Target date funds are made up of several companies like indexes and etfs and also mix in bonds and other investments depending on your age. What would I recommend? I would recommend the Index funds and/or ETFs that have the lowest fee that make up the following strategy for your age: Why Not Target Date Funds or Stocks? Target date funds have high fees. Later in life when you are closer to retirement you may want to add bonds to your portfolio. At that time if this is the only option to add bonds then you can change your elections. Stocks are too risky for you with your current knowledge. If your company matches by buying their stock you may want to consider reallocating that stock at certain points to your Index funds or ETFs. This is the chart going back to the first full year of this fund.  To answer your question - yes, a low cost ETF or Mutual fund is fine. Why not go right to an S&P index? VOO has a .05% expense. Why attracted you to a choice that lagged the S&P by $18,000 over this 21 year period?  (And yes, past performance, yada, yada, but that warning is appropriate for the opposite example. When you show a fund that beat the S&P short term, say 5 years, its run may be over. But this fund lagged the S&P by a significant margin over 2 decades, what makes you think this will change? None of your options seem mutually exclusive.  Ordinarily nothing stops you from participating in your 401(k), opening an IRA, qualifying for your company's pension, and paying off your debts except your ability to pay for all this stuff.  Moreover, you can open an IRA anywhere (scottrade, vanguard, etrade, etc.) and freely invest in vanguard mutual funds as well as those of other companies...you aren't normally locked in to the funds of your IRA provider. Consider a traditional IRA.  To me your marginal tax rate of 25% doesn't seem that great.  If I were in your shoes I would be more likely to contribute to a traditional IRA instead of a Roth.  This will save you taxes today and you can put the extra 25% of $5,500 toward your loans.  Yes, you will be taxed on that money when you retire, but I think it's likely your rate will be lower than 25%.  Moreover, when you are retired you will already own a house and have paid off all your debt, hopefully.  You kind of need money now.  Between your current tax rate and your need for money now, I'd say a traditional makes good sense.  Buy whatever funds you want.  If you want a single, cheap, whole-market fund just buy VTSAX.  You will need a minimum of $10K to get in, so until then you can buy the ETF version, VTI.  Personally I would contribute enough to your 401(k) to get the match and anything else to an IRA (usually they have more and better investment options).  If you max that out, go back to the 401(k). Your investment mix isn't that important.  Recent research into target date funds puts them in a poor light. Since there isn't a good benchmark for a target date fund, the managers tend to buy whatever they feel like and it may not be what you would prefer if you were choosing.  However, the fund you mention has a pretty low expense ratio and the difference between that and your own allocation to an equity index fund or a blend of equity and bond funds is small in expectation.  Plus, you can change your allocation whenever you want. You are not locked in. The investment options you mention are reasonable enough that the difference between portfolios is not critical.  More important is optimizing your taxes and paying off your debt in the right order. Your interest rates matter more than term does. Paying off debt with more debt will help you if the new debt has a lower interest rate and it won't if it has a higher interest rate.  Normally speaking, longer term debt has a higher interest rate.  For that reason shorter term debt, if you can afford it, is generally better.  Be cold and calculating with your debt.  Always pay off highest interest rate debt first and never pay off cheap debt with expensive debt. If the 25 year debt option is lower than all your other interest rates and will allow you to pay off higher interest rate debt faster, it's a good idea.  Otherwise it most likely is not.  Do not make debt decisions for psychological reasons (e.g., simplicity).  Instead, always chose the option that maximizes your ultimate wealth. I choose lifecycle funds because I am placing faith (perhaps foolishly) that a full time fund manager knows better what to pick than I.  The same reason I go with mutual funds in general apply to to why I also have the lifecycle funds.  Presently my diversification strategy is really just index funds and lifecycle funds. The radio advice guy Clark Howard often promotes them. http://www.wacotrib.com/none/content/shared/money/stories/clark/0601/060425money.html (I count in the intimidated group) "Assuming the numbers work out roughly the same (and you can frankly whip up a spreadsheet to prove that out), a defined benefit scheme that pays out an amount equal to an annuitized return from a 401(k) is better.  The reason is not monetary - it is that the same return is being had at less risk. Put another way, if your defined benefit was guaranteed to be $100/month, and your 401(k) had a contribution that eventually gets to a lump sum that, if annuitized for the same life expectancy gave you $100/month, the DB is better because there is less chance that you won't see the money. Or, put even simpler, which is more likely? That New York goes Bankrupt and is relieved of all pension obligations, or, the stock market underperforms expectations.  Neither can be ruled out, but assuming even the same benefit, lower risk is better. Now, the complication in your scenario is that your new job pays better.  As such, it is possible that you might be able to accumulate more savings in your 401(k) than you might in the DB scheme.  Then again, even with the opportunity to do so, there is no guarantee that you will.  As such, even modelling it out really isn't going to dismiss the key variables. As such, can I suggest a different approach?  Which job is going to make you happier now?  Part of that may be money, part of that may be what you are actually doing.  But you should focus on that question. The marginal consideration of retirement is really moot - in theory, an IRA contribution can be made that would equalize your 401(k), negating it from the equation.  Grant you, there is very slightly different tax treatment, and the phaseout limits differ, but at the salary ranges you are looking at, you could, in theory, make decisions that would have the same retirement outcome in any event. The real question is then not, ""What is the effect in 20 years?"" but rather, which makes you happier now?" "First of all, congratulations on being in an incredible financial position.  you have done well. So let's look at the investment side first.   If you put 400,000 in a decent index fund at an average 8% growth, and add 75,000 every year, in 10 years you'll have about $1.95 Million, $800k of which is capital gain (more or less due to market risk, of course) - or $560k after 30% tax.  If you instead put it in the whole life policy at 1.7% you'll have about $1.3 Million, $133k of which is tax-free capital gain. So the insurance is costing you $430K in opportunity cost, since you could have done something different with the money for more return.   The fund you mentioned (Vanguard Wellington) has a 10-year annualized growth of 7.13%.  At that growth rate, the opportunity cost is $350k.  Even with a portfolio with a more conservative 5% growth rate, the opportunity cost is $178k Now the life insurance.  Life insurance is a highly personal product, but I ran a quick quote for a 65-year old male in good health and got a premium of $11,000 per year for a $2M 10-year term policy.  So the same amount of term life insurance costs only $110,000.  Much less than the $430k in opportunity cost that the whole life would cost you. In addition, you have a mortgage that's costing you about $28K per year now (3.5% of 800,000). Why would you ""invest"" in a 1.7% insurance policy when you are paying a ""low"" 3.5% mortgage? I would take as much cash as you are comfortable with and pay down the mortgage as much as possible, and get it paid off quickly. Then you don't need life insurance.  Then you can do whatever you want.  Retire early, invest and give like crazy, travel the world, whatever.   I see no compelling reason to have life insurance at all, let alone life insurance wrapped in a bad investment vehicle." "Yep, most 401k options suck. You'll have access to a couple dozen funds that have been blessed by the organization that manages your account. I recently rolled my 401k over into a self-directed IRA at Fidelity, and I have access to the entire mutual fund market, and can trade stocks/bonds if I wish.  As for a practical solution for your situation: the options you've given us are worryingly vague -- hopefully you're able to do research on what positions these funds hold and make your own determination. Quick overview: Energy / Utilities: Doing good right now because they are low-risk, generally high dividends. These will underperform in the short-term as the market recovers. Health Care: riskier, and many firms are facing a sizable patent cliff. I am avoiding this sector. Emerging Markets: I'm also avoiding this due to the volatility and accounting issues, but it's up to you. Most large US companies have ""emerging markets"" exposure, so not necessary for to invest in a dedicated fund in my unprofessional opinion. Bonds: Avoid. Bonds are at their highest levels in decades. Short-term they might be ok; but medium-term, the only place to go is down. All of this depends on your age, and your own particular investment objectives. Don't listen to me or anyone else without doing your own research." "First of all, it's great you're now taking full advantage of your employer match – i.e. free money. Next, on the question of the use of a life cycle / target date fund as a ""hedge"": Life cycle funds were introduced for hands-off, one-stop-shopping investors who don't like a hassle or don't understand.  Such funds are gaining in popularity: employers can use them as a default choice for automatic enrollment, which results in more participation in retirement savings plans than if employees had to opt-in.  I think life cycle funds are a good innovation for that reason. But, the added service and convenience typically comes with higher fees.  If you are going to be hands-off, make sure you're cost-conscious:  Fees can devastate a portfolio's performance. In your case, it sounds like you are willing to do some work for your portfolio.  If you are confident that you've chosen a good equity glide path – that is, the initial and final stock/bond allocations and the rebalancing plan to get from one to the other  – then you're not going to benefit much by having a life cycle fund in your portfolio duplicating your own effort with inferior components.  (I assume you are selecting great low-cost, liquid index funds for your own strategy!)  Life cycle are neat, but replicating them isn't rocket science. However, I see a few cases in which life cycle funds may still be useful even if one has made a decision to be more involved in portfolio construction: Similar to your case: You have a company savings plan that you're taking advantage of because of a matching contribution.  Chances are your company plan doesn't offer a wide variety of funds.  Since a life cycle fund is available, it can be a good choice for that account.  But make sure fees aren't out of hand.  If much lower-cost equity and bond funds are available, consider them instead. Let's say you had another smaller account that you were unable to consolidate into your main account.  (e.g. a Traditional IRA vs. your Roth, and you didn't necessarily want to convert it.)  Even if that account had access to a wide variety of funds, it still might not be worth the added hassle or trading costs of owning and rebalancing multiple funds inside the smaller account.  There, perhaps, the life cycle fund can help you out, while you use your own strategy in your main account. Finally, let's assume you had a single main account and you buy partially into the idea of a life cycle fund and you find a great one with low fees. Except: you want a bit of something else in your portfolio not provided by the life cycle fund, e.g. some more emerging markets, international, or commodity stock exposure.  (Is this one reason you're doing it yourself?) In that case, where the life cycle fund doesn't quite have everything you want, you could still use it for the bulk of the portfolio (e.g. 85-95%) and then select one or two specific additional ETFs to complement it.  Just make sure you factor in those additional components into the overall equity weighting and adjust your life cycle fund choice accordingly (e.g. perhaps go more conservative in the life cycle, to compensate.) I hope that helps! Additional References:" At your age, I don't think its a bad idea to invest entirely in stocks. The concern with stocks is their volatility, and at 40+ years from retirement, volatility does not concern you. Just remember that if you ever want to call upon your 401(k) for anything other than retirement, such as a down payment on a home (which is a qualified distribution that is not subject to early distribution penalties), then you should reconsider your retirement allocations. I would not invest 100% into stocks if I knew I were going to buy a house in five years and needed that money for a down payment. If your truly saving strictly for a retirement that could occur forty years in the future, first good for you, and second, put it all in an index fund. An S&P index has a ridiculously low expense ratio, and with so many years away from retirement, it gives you an immense amount of flexibility to choose what to do with those funds as your retirement date approaches closer every year.