Q&A: Should I Contribute to My Roth 401(k) During a Bear Market?

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As I am writing this, we are in the midst of the 2020 COVID Bear Market with stocks down more than 20% from their recent highs. For many of us younger investors, this is the first Bear Market we have experienced as independent adults.

There is no shame in feeling uneasy. That is called being human. However, before you take any drastic measures, it might be a good idea to reach out to a financial planner for some advice. We often select new article topics from Contact Form requests we receive. If you have a question that is not answered or addressed by articles previously written, you can try asking your questions of us and see if we respond. I cannot guarantee that we will answer your question, but you are always permitted to ask.

Along those lines, I recently received the following reader question:

With all that is going on, I am worried about the security of my and my husband’s jobs and about meeting our living expenses. Should I stop contributing to my Roth 401(k) for now to have extra immediate money?

There at least two underlying questions here wrapped up into one. I’ll answer them one at a time.

Where should I save and invest during a Bear Market?

Nothing changes during a Bear Market when it comes to where you should save and invest. I would still recommend the same account ordering as described in “Which Retirement Account Should I Fund?” That order is:

  1. Fund your 401(k) or 403(b) enough to get your full match if you have an employer match.
  2. Fund your Roth IRA (or Backdoor Roth) and Health Savings Account (HSA).
  3. Fund your Roth 401(k) or 403(b) more.
  4. Contribute to your SEP IRA.
  5. Consider a traditional IRA or 401(k)/403(b).
  6. Save in your brokerage account.

Sometimes is can be scary to invest, and investors let large cash balances build up on the sidelines waiting to be invested until “things look better.” However, pulling out when things look bad and investing only when things look good is how you end up buying high and selling low. It’s like going shopping only when there isn’t a sale and avoiding the stores when everything is discounted.

It is always a good time to have a balanced portfolio. If your fear is getting in the way of getting started, perhaps it is time to automate your investing so you can distance your emotions or hire a financial professional who can help you be a contrarian of the markets. Continuing to invest your savings and buying on a consistent schedule regardless of what the market is doing is a wealth-generating mindset.

Where should I withdraw from in an emergency?

One dollar is just the same as another dollar. Curiously though, our emotions do not perceive the world this way. To our emotions, our paycheck feels different from a gift card which feels different from a tax refund. However, this fallacious method of thinking is called a “two-pocket theory of money,” and once we overcome its sentimental ways, we open ourselves to more strategies for saving.

Most savers have at least three stores of money: retirement accounts, taxable savings accounts, and paychecks. Some investors like me are contributing to some accounts, such as their Roth 401(k) or IRA, while at the same time they are withdrawing from other accounts, such as their taxable savings. However, if your net contributions/withdrawals from across all your investment accounts is positive, you are contributing and do not have a withdrawal rate. Instead, the withdrawal on your taxable account is better thought of as a tax planning strategy, such as a Roth conversion.

Even though you may be selling stocks in your taxable account in order to support parts of your standard of living, you might be buying more stocks in your 401(k) as a part of your direct deposit deferral. In effect, this likely serves as an automated tax-loss harvesting strategy, banking capital losses for your next tax return while still remaining fully invested to wait for the next recovery. Your regular retirement deposit serves the same function in your portfolio that an excess stability allocation provides to a more conservative investor.

If your 401(k) is your only savings, then you might not be saving enough. To have a 40-year working career (age 25 to age 65), you need to save and invest 15% of your standard of living each of those 40 years, regardless of how much you earn, in order to stay on track for retirement. If you are starting late on your savings, then you have to save and invest more.

Instead of finding somewhere to withdraw, strive instead to use this time to practice extreme thrift. Try to cut back your standard of living as much as possible to limit your portfolio withdrawals. Perhaps try using Core Values Budgeting to identify budgeting changes or revisit your spending habits to see if you can cultivate a thriftier lifestyle. Moderating your spending is one of the things which is under your control and always has a large impact on your financial well-being. Investment performance is rarely the reason a retirement fails, but overspending assets always risks retirement failure.

Look critically at your life and chances are you’ll find the cash you need without making the mistake of pulling money from your retirement.

In the event that you do have a financial emergency and are forced to withdraw funds from somewhere, you will be thankful that you created more margin in your budget.

My favorite response to the 2020 COVID Bear Market that I have read so far is:

Your 401(k) is like your face: don’t touch it!

In the same way that we are striving to practice good hygiene and social distancing to prevent the spread of the coronavirus, so too now is the time to practice good financial hygiene. Live within your means. Prioritize your retirement savings.

The market still trends upward. It has bear markets, recessions, and crashes along the way, but it still trends upward. The longer the time period you look at, the less drops there seem to be. There has never been a 20-year period where the markets have been down. Long-term investors have time to recover. You can do this. If you don’t want to do it alone, this might be the time to reach out for help. Feel free to drop us a message or give us a call to get started today.

Photo by Michael Aleo on Unsplash

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Megan Russell has worked with Marotta Wealth Management most of her life. She loves to find ways to make the complexities of financial planning accessible to everyone. Her most popular post: The Complete Guide to Your Washing Machine