Question 1

What happens to my 401(k) in a recession?

Accepted Answer

It goes down. The S&P 500 has fallen thirty to fifty percent peak-to-trough in each of the last three recessions, and since most 401(k) balances sit in stock-heavy target-date funds, the account statement tracks most of that move. The exact damage depends on your mix. A 70/30 stock-bond portfolio in 2008 was roughly a 25 percent drawdown, not a 57 percent one, because the bond sleeve rallied as the Fed cut rates to zero. The number is terrifying in isolation and much less terrifying once you add the two facts that matter. You did not sell at the low. The market came back.

Question 2

Should I stop contributing to my 401(k) during a recession?

Accepted Answer

Almost never, and the math is boring. Your paycheck contribution buys the same dollar amount of fund shares whether the index is at an all-time high or twenty percent below one. When the index is low, that fixed contribution buys more shares. Those extra shares compound when the market recovers, which it historically has. Stopping contributions locks in the premium you were paying before the drawdown started and skips the discount the market is handing you. The one real exception is if the recession has cost you your income, in which case the priority is the emergency fund, not the 401(k). Otherwise, set the contribution and walk away.

Question 3

What is sequence of returns risk?

Accepted Answer

It is the thing financial planners lose sleep over. Two retirees with identical average returns over thirty years can end up with wildly different outcomes purely based on when the bad years happen. A bad year at age 35 is a sale. A bad year at age 66 is a disaster, because you are withdrawing at the low, which permanently shrinks the pool that has to last the rest of your life. The fix is not clever market-timing. It is to move out of the all-stock exposure as you approach the date you start drawing, so the market takes less of a bite when it decides to take one. Target-date funds implement this automatically. If you are forty years from retirement, sequence risk is not your problem.

Question 4

How long does it take a 401(k) to recover?

Accepted Answer

The index itself has historically taken six months on the fast end and several years on the slow end, measured peak to next new high. Your account recovers faster, because every paycheck contribution during the drawdown buys shares at a discount and those shares do not need to wait for the full round trip to come out ahead. If you are making regular contributions through a bear market your balance often makes new highs before the index does. The one way to guarantee slow recovery is to sell at the low and then buy back in once the recovery is obvious, which is how most people actually do it.

Question 5

Should I move my 401(k) to cash?

Accepted Answer

You can. You almost certainly should not. Cash feels safe at the moment you press the button, and it is the single easiest way to convert a recoverable drawdown into a permanent loss. The market does not call you when it has decided to recover. It just recovers, usually in a few weeks at the front edge of the move, and the people who moved to cash are rarely the ones who catch the re-entry right. If your allocation was wrong for your risk tolerance before the recession it is fine to fix it now, but fix it to a target mix you can hold in every climate. Do not fix it to one hundred percent cash because CNBC is red today.

Your 401(k) in a recession.

Recession and the 401(k), answered.

Your 401(k) in a recession.

Recession and the 401(k), answered.

Get the briefing in your inbox.