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WHERE TO PUT 401(K) MONEY? A LOW-COST IRA ROLLOVER

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       Investor's Insight - November 10, 2006           
          "A Digest of Investment Opinion From the 
             World's Leading Financial Advisers"

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WHERE TO PUT 401(K) MONEY? A LOW-COST IRA ROLLOVER
by Scott Burns

Q: About your recent column about the Northrop Grumman 
401(k) lawsuit, I was laid off from Northrop Grumman back 
in May. I wasn't thinking about moving my 401(k), but I 
think differently now. 

I am very green in the subject of money and have not 
found a local financial adviser I trust. I have visited 
several Web sites that offer 401(k) rollovers, but do 
you have any suggestions on what to look for? I have 
nearly $70,000 in the 401(k) account.

My husband is a great saver of money but would rather 
clean the toilet than think about investments. I just 
opened a Vanguard Roth IRA account for him. We, like 
you, believe in being debt-free and currently have no 
mortgage or car payments. I am 32 and my husband is 44. 
We have almost $100,000 in our savings account earning 
about 4 percent. We are conservative, and my husband's 
risk tolerance is very low. Do you think it is best for 
us to leave the money there or invest it? If invest, 
where? -- M.R., by e-mail

A: In your shoes, I'd do a rollover to one of the major 
low-cost providers such as Fidelity or Vanguard. My 
personal preference is for Fidelity because it has branch 
offices in many locations where you can get help doing a 
rollover if you are nervous about doing it online. Many 
people are.

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If you visit the Fidelity Web site, you will find a page 
that will tell you the office nearest to your ZIP code.

Then you need to have a long talk with your husband. There 
is nothing wrong with being risk-averse. Had more people 
taken risk seriously, the 2000-2002 bear market would not 
have done the damage to retirement portfolios that it did.

Unfortunately, avoiding all risk is a virtual guarantee 
of retirement failure because money market returns are 
only slightly higher than the rate of inflation. To acc-
umulate a meaningful nest egg, you need two ingredients: 
(1) regular savings and (2) a return substantially higher 
than the rate of inflation.

So ask your husband how much risk-free money he needs to 
have. With $100,000 in a savings account and $70,000 in 
your 401(k), you could invest 100 percent of the 401(k) 
account in equities, and it would still take a fairly 
bad year to cause you to lose money. 

As a practical matter, you should invest much of your 
$100,000 savings in equities to reduce your current tax
bill while concentrating your IRA rollover investments 
in a mix that is dominated by fixed income and REITs 
that are taxed at ordinary income tax rates.

A very simple portfolio would be the following:

(1) Keep $30,000 of your savings account in a money market 
fund. 

(2) Put $70,000 of your savings account into Fidelity Four 
in One index fund (ticker: FFNOX). 

(3) Divide your 401(k) rollover into a $35,000 investment 
in a REIT exchange-traded fund and an additional $35,000 
investment in Fidelity Four in One index fund. This would 
give you a diversified portfolio holding U.S. large and 
small equities and International equities, bonds, cash and 
real estate. You could make your overall portfolio more 
conservative by using Fidelity Balanced fund (ticker: 
FBALX) instead of Four in One Index fund.

Q: I have a question about some information I've been 
reading at different Web sites regarding foreign stocks 
and small-cap value indexes. Basically, I've read that 
small-cap value indexes and foreign stock indexes per-
form better historically than the S&P 500. Is this 
true? I understand that there is a greater degree of 
volatility, but most professionals use domestic large-
cap funds as the "core" of their portfolios. 
Will an equity portfolio based on small-cap value in-
dexes and foreign stock indexes outperform the S&P 500? 
Is it worth setting up a portfolio based on these asset 
classes? -- C.G., Dallas

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A: Yes, it is likely to be quite worthwhile. The Ibbotson 
Associates data shows that U.S. large-cap stocks have 
returned 11.2 percent annually (compounded) since 1972 
with a standard deviation of 17.5 percent. Small-cap U.S. 
stocks have returned 14.9 percent compounded annually over 
the same period with a 22.8 percent standard deviation. 

If you mix cash, small-cap stocks and large-cap stocks, 
you will have a portfolio that will provide a higher re-
turn, with slightly less risk, than a portfolio that is 
100 percent large-cap stocks.

Ibbotson Associates data also shows that adding inter-
national stocks or equity REITs will provide a further 
benefit in diversification and risk reduction. According 
to its 2006 yearbook, for instance, equity REITs provided
a return of 13.4 percent compounded annually over the 
1972-2005 period, with a standard deviation of 16.7 per-
cent.

Building portfolios with different asset classes is the 
main task of modern portfolio theory. Add some geopoliti-
cal reality and the danger of a declining dollar, and you 
can understand why the portfolio that economist Larry 
Kotlikoff and I recommended in "The Coming Genera-
tional Storm" (MIT Press, $18) included international 
stocks, equity REITs, international bonds and energy
stocks.

You can discuss this issue or any other topic in the new 
Investor's Insight forum. Check it out here...

 
Investor's Insight Forum

(Investor's Insight reflects the opinions of experts. It does 
not recommend any specific investments, and no endorsement is 
implied or should be inferred. For more information, contact 
the individual firms cited).

COPYRIGHT 2006 UNIVERSAL PRESS SYNDICATE

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