401(k) Limitations

In a recent post we discussed the 401(k), a bit about its history and some of the challenges individual investors face from their participation in these plans.

It's also worth mentioning that the introduction of the 401(k) plan has created other problems for the industry as a whole. When a large number of individuals invest in the same stocks [due to the limited investment options within 401(k) plans], it creates an abnormal demand for those stocks and artificially inflates their prices.

Industry pundits are also pointing out that the flow of vast sums of money into the market tends to make money managers complacent and less attentive to the needs of investors.
In a recent article in Forbes, John Wasik explains the impact. "Wall Street, needless to say, loves the 401(k) model, and is lustily funding the demise of the defined-benefit world at every turn through think tanks, white papers, campaign funding and influence on the 'free market' school of economics.

"The more society moves into a 401(k) world, the more fees corporations can charge to an ever-greater number of people. The more money under management, the more money they make on a straight percentage. It doesn’t matter if they had employed actual skill to make your money grow. In most cases, they did little or nothing and they still get paid when you lose money."

Source: The 401(k) World: a Deeper Look into Tom Friedman's nightmare.

The original proponents of the 401(k) plan, which has become the dominant source of retirement savings for most Americans, are rueful about the revolution they unintentionally began.

Ted Benna, the person widely credited as the creator of the 401(k), believes he “created a monster”. In 1978, Congress approved The Revenue Act of 1978, which ushered in the 401(k) plan. The government was ostensibly acting in the spirit of giving employees options for retirement and alternatives to the traditional standard pension plan. Sounds pretty good, right?

The underpinnings of this legislation begins to tell the real story. Large companies were lobbying Congress to shut down their pension plans because 1) they were too expensive to administer, and 2) the employer held all of the investment risk.

While the 401(k) plan might seem beneficial for the stock market and the economy, it’s contributing to a substantial risk, particularly regarding the market’s stability. The plan encourages billions of dollars to flow into the market at the same time, which artificially inflates stock prices due to the increased buying pressure. This mass contribution has pushed the Dow Jones Industrial Average above 34,000 — a 3,500% return since the inception of the 401(k).

Furthermore, many funds, driven by law, are obligated to invest in S&P 500 companies such as Apple, inflating their valuations and making them less advantageous investments for individuals. This rule has inadvertently made blue-chip stocks more expensive for everyone, impacting regular investors who wish to purchase shares in companies like Apple, Tesla, or McDonald’s. While initially conceived as a benefit for employees, the 401(k) plan is now posing challenges to stock market stability and affecting the fair valuation of top-tier companies.

Source: Pennsylvania Farmer Behind $5 Trillion Trend Speaks Out