Can you tell me the #1 mistake in the Thrift Savings Plan (TSP) that we see people make repeatedly?
Not contributing? No. Not contributing to get the match (FERS only)? No. Not contributing to ROTH TSP? No, although that is pretty big. How about not investing in the I Fund? Getting closer, but no.
One of the top mistakes I see many federal employees make with their TSP accounts is being allocated to the appropriate amount of risk. This means having the right amount of risk while accumulating funds and the right amount of risk when drawing down their portfolios.
Routinely, we see many participants active in being aggressive during most of their careers, but when they reach retirement, one or two of these things happen: some forget to adjust to their changing risk tolerances and panic when the market starts to tank, or they pre-panic and prematurely turn rebalance to an overly conservative allocation.
By not having the right allocation, participants are not allowing all the benefits of the TSP to work for them.
A place to start correcting this would be to adopt one school of thought and stick to it. Just like diets, people like to jump to the diet du jour; however, when they jump around with investment philosophies, they rarely ever turn it into sustainable strategy because they usually jockey with their accounts far too often. Either decide to use the individual funds, which would require more action on your part, or use the L Funds, as they were designed to pick one L Fund to be your entire allocation.
We believe an allocation strategy many should consider is Modern Portfolio Theory (MPT), published by Harry Markowitz in 1952. In essence, he proposed that by investing across classes of assets rather than individual stocks, individual investors could potentially earn a higher return with less risk.
That sounds incredible, right?! It sounds great, but how do you deploy it?
First, one would want to gauge his or her risk tolerance. There are many public tools available that people can use to gauge this for themselves, or they can also talk to their Fed-Focused Financial Advisor. This result is purely individual and should consider things like age, time horizon (time to and through retirement), emotional capacity to withstand stock market movements, and income need for retirement, to name a few. Then, as life marches on, there are ongoing assessments to ensure the portfolio risk moves in the right direction.
As mentioned, we believe you should either find out your right mix of funds using the individual funds or, as an alternative, use the L Funds. The L Funds try to deploy MPT by taking the burden off the participant by rebalancing and keeping the proper allocation for the targeted retirement date. This means someone retiring in 2037 should consider either the 2035 or 2040 L Fund based on risk tolerance. If someone is a bit more conservative, he or she could go with the L 2035 Fund, but if more comfortable with a little more risk, then he or she should consider the 2040.
Either way, the selected L Fund will rebalance daily until the target date. Then, at that time, the selected fund will convert into the L Income Fund, designed for conservative retirement folks drawing income from their TSP.
It is important to make sure we have the right allocation in place to guide us through the ups and downs of the market because, as Noble Laureate Daniel Kahneman mentions in his book Thinking, Fast and Slow, and I paraphrase, his sentiment is that humans beings are hardwired to make bad investment decisions. The cognitive basis we hold for surviving makes us naturally wired to be bad at investing. As he explains, emotionally, it feels twice as bad to lose value in our investments than the gains we achieve, even if the gains outpace the amount of losses.
Another example would be herd mentality. When the market is having negative volatility and coworkers, family, and friends are getting nervous and talking about making changes to their investments, we also have the urge to do something. The worst thing you can do is sell out and follow the crowd. In the words of legendary investor Peter Lynch, “Far more money has been lost by investors preparing for corrections, or trying to anticipate corrections, than has been lost in corrections themselves.”
Time and time again, the great investors, past and present, all preach the same message: have patience. This is done by diligently crafting an accumulation strategy that matches your risk tolerance and sticking to the plan. If you want to do it yourself, great. Just be sure not to let life get in the way of staying on top of it. If you hire a professional to help, ensure they aren’t changing strategies as often as the weather changes. No one has ever said, “Thank God I panicked.”
Prepare. Plan. Propser.
James “Wes” Battle is a Financial Planner offering securities through Cetera Advisor Networks LLC, member FINRA/SIPC. Advisory Services offered through Cetera Investment Advisers LLC, a registered investment adviser. Cetera is under separate ownership from any other named entity. 2101 Gaither Rd., Ste 600, Rockville, MD 20850.
The opinions contained in this material are those of the author, and not a recommendation or solicitation to buy or sell investment products. This information is from sources believed to be reliable, but Cetera Advisor Networks LLC cannot guarantee or represent that it is accurate or complete.
For a comprehensive review of your personal situation, always consult with a tax or legal advisor. Neither Cetera Advisor Networks LLC nor any of its representatives may give legal or tax advice.
