Question: 401 (k) SSAIR Retirement Plan Options Notes: · Tax-deferred (deposits
ID: 2783847 • Letter: Q
Question
Question:
401 (k) SSAIR Retirement Plan Options
Notes:
· Tax-deferred (deposits made into plan are deducted from pretax income). No current taxes paid on that money
· If salary was $50,000 per year, contributing $3000 to 401(k), pay taxes on only $47,000 income.
· No taxes paid while invested in plan, but you pay taxes when you withdrawal at retirement
· Company has a 5% match. (will pay up to 5% match of salary but you need to contribute to get match).
401 (k) Option Notes
· Most mutual funds (portfolio of assets)
· Return of find is weighted average of return of assets owned by fund, minus any expenses.
· Largest expense typically is management fee to fund manager (who makes all investment decisions for the fund).
Investment Options
· Company Stock
o Currently privately held
o Company stock expected to go public in 3-4 years (until then, price set by board of directors).
· B. S&P 500 Index Fund
o Mutual Fund that tracks S&P 500.
o Stocks in fund weighted = S&P 500
o Fund return ~ the return on S&P 500 minus expenses
o Index fund purchases assets based on composition of index, the fund manager not required to research stocks and make investment decisions. (results in low fund expenses).
o Charges 15% of assets per year
· B. Small-Cap Fund
o Primarily invests in small-capitalization stocks. (returns on funds more volatile
o Fund can also invest 10% of its assets in companies based outside of U.S.
o Charges 1.70% in expenses
· B. Large- Company Stock Fund
o Primarily invests in large-capitalization of stocks of companies based in the U.S.
o Funds managed by B. Company owner (outperformer of market for the last 6 of 8 years)
o Charges 1.50% in expenses
· B. Bond Fund
o Invests in long-term corporate bonds issued by U.S. domiciled companies.
o Restricted to investment bonds with investment-grade credit rating
o Charges 1.40% in expenses
· B. Money Market Fund
o Invests in short-term, high credit quality instruments (including treasury bills)
o Return on money market fund is only slightly higher than the return on treasury bills.
o Credit quality and nature of short-term, make it slight risk of negative return
o Charges .60% in expenses.
4. The returns on the B Small-Cap Fund are the most volatile of all the mutual funds offered in the 401(k) plan. Why would you ever want to invest in this fund? When you examine the expenses of the mutual funds, you will notice that this fund also has the highest expenses. Does this affect your decision to invest in this fund? process of evaluation of options. ( show understanding of the capital market history and concepts of risk, returns and variability.)
.
Explanation / Answer
In the given question, it is stated that B Small-Cap Fund has the most volatile returns of all mutual funds that are offered in the 401(k) plan. It also has the highest expenses.
Whether one should invest in such mutual funds or not is a decision to be taken by the investor based on his/her risk appetite. An individual who is willing to take risks will be interested to invest in B Small-Cap Fund while an individual who is not in favour of taking risks will avoid investing in it. However, since the case here is that of a retirement plan so, the tendency of the investor will mostly be to not take risk. The income from the retirement plan might be the only source of income for the investor, so he/she may not want to take the risk and hence may not invest in the B Small-Cap fund. Moreover, it also has the maximum expenses involved.
Age of the investor has a very important role to play in investment decisions. A younger person would generally be willing to take the risk of investing in such funds because he/she would be hopeful that the fund has a potential for good returns. But an elderly person would be hesitant to take up such risk in his/her retirement plan.
Moreover, the fund can also invest 10% of its assets in companies based outside of U.S. This is another concern of the investor as they might not be aware about the foreign companies in which their money would be invested. So, the risk factor rises. It is also possible that the risk will be repaid with good returns as well but it is the risk part that will be of more concern to the investors of the retirement plan. Thus, all this will influence the decision to invest in the fund.
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