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American workers with 401(k) plans are right to dread a stock market crash that would wipe out a big chunk of their hard-earned balances.
But instead of living in fear, it's possible to do something about it - thanks to the option of money market funds, which almost every 401(k) plan offers.
A lot of people don't realize how easy it is to make the changes to their 401(k) that would protect them from a market collapse. Only one in six 401(k) participants ever change the investments in their plan, according to U.S. News. Either they don't believe they are allowed to rebalance, or they don't know how.
Moreover, many investors wrongly believe their 401(k) assets are required to stay invested in the markets, no matter what the structural risks are. They've heard about the onerous tax penalties and fees associated with "early withdrawal," so they don't touch them at all.
So every time there's a major market downturn, they lose.
Most importantly, they don't know that moving into a money market fund will protect those assets from a market crash.
But it doesn't have to be that way.
Money Market Funds Provide Market Crash Protection
The best way to protect your 401(k) balance from a market crash is to re-allocate some of your money into one of the money market fund investment options. Most 401(k) plans offer at least one such option.
Money market funds are simply mutual funds that invest in short-term (less than one year) securities representing high-quality, liquid debt and monetary instruments. These often include short-term government securities, companies, and repurchase agreements.
In most cases the goal is to maintain a net asset value (NAV) of $1 per share while offering a modest return.
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In many ways, they're like a savings account - a safe and accessible place to store your cash, but better.
You see, money market funds pay much higher "interest."
The average savings account interest rate is a dismal 0.06%, according to the FDIC (as of September 2014).
Most money market funds beat that handily, yielding usually 0.01% every seven days, or 0.52% annually, thanks to the structure of the bonds.
Money market funds are extremely low-risk, too. In fact, there are rules that automatically reduce risk. No investment in the fund can exceed 13 months in duration, and the average weighted maturity in the portfolio is 60 days or less. And these funds are not subject to market timing considerations; you can buy and sell them at any time.
And of course the most important thing is that because they're not invested in equities, money market funds don't lose value in a stock market crash.
Here's how to get started:
