Experts warn that Americans are losing out on investment gains by accidentally withdrawing their retirement savings from the stock market after changing jobs.
When people roll over a 401(K) plan from work into an individual retirement account, the money is often held in cash until the saver chooses new investments.
However, many Americans forget to select new investments and unintentionally leave their money in cash, new investigation of Vanguard Group shows.
This means they are losing a total of $172 billion in retirement wealth that they could generate by investing the money in stocks and bonds instead. This can add up to $130,000 per person.
Younger investors, women and those with smaller balances are especially likely to sit in cash for years after a rollover, the study found, depriving them of valuable gains through compound interest.
Experts warn that Americans are losing out on investment gains by accidentally withdrawing their retirement savings from the stock market after changing jobs
For investors under age 55, Vanguard estimates that the long-term benefit of investing in a target-date fund, rather than staying in cash, is equivalent to an average increase of at least $130,000 in retirement wealth by age 65.
According to Vanguard, cash is the de facto default choice for contributions to individual retirement accounts (IRAs).
This is despite the fact that it is generally prohibited as a default investment option in workplace 401(K) plans.
IRA cash is highly “sticky,” Vanguard said.
Unless Americans voluntarily invest their IRA assets in stocks and bonds, they tend to remain in cash indefinitely.
Among the renewals carried out in 2015, 28 percent remained in cash for at least seven years.
This mistake is common and particularly costly for younger workers, who may be accustomed to having their retirement savings automatically invested in company plans.
Stocks and bonds typically offer much higher returns than cash.
Cash-like investments have received a boost since the Federal Reserve began raising interest rates from near zero in 2021.
Money market funds now pay annual interest of about 5 percent, The Wall Street Journal reported.
According to investment research firm Morningstar Direct, large-cap U.S. stocks have gained 7.19 percent annually on average, compared with just 0.31 percent for cash.
Over the years, compound interest grows these ever-increasing stock market gains, snowballing as income is earned on an ever-increasing account balance.
Keeping retirement savings in cash is also an issue for older savers, who tend to need some exposure to stocks to ensure their money lasts. The Wall Street Journal reported.
Huge sums of cash being unintentionally stashed away are a growing concern since IRAs have become the dominant way Americans hold their retirement savings, Fiona Greig, global head of investor research and policy at Vanguard, told the outlet.
Keeping retirement savings in cash is also an issue for older savers, who tend to need some exposure to stocks to ensure their money lasts.
IRAs have become the dominant way Americans hold their retirement savings, said Fiona Greig, global director of investor research and policy at Vanguard.
Brie Pio, a financial advisor in Maine, said one couple who hired her in 2021 had rolled over $400,000 from a 401(K) plan into an IRA the previous year.
They didn’t realize the money was in cash, and Pio estimated they lost about $100,000 by missing out on a stock market rally.
“They couldn’t understand why they weren’t making money when the stock market was showing high returns,” Pio said.
When leaving a job, Americans can keep their 401(K) balance at their former company, roll it over to a new workplace 401(K) plan, or move it to an IRA.
An IRA gives savers more options about where to invest their money, but it is not typically invested in the market.
Some people put off deciding where to invest their money because they feel overwhelmed by the thousands of options IRAs offer, Andy Reed, head of investor behavioral research at Vanguard, told the Wall Street Journal.
Others mistakenly assume that the company that acts as custodian of their IRA, such as Vanguard or Fidelity Investments, will automatically invest their savings for them, as many 401(K) plans do.
Without reminders to invest the funds, “a large number of IRA investors would remain sitting on cash forever,” he added.
