Employee Investment Handbook

Transcription

1 Employee Investment Handbook

2 Employee Investment Handbook The material used in this text has been drawn from sources believed to be reliable. Every effort has been made to ensure the accuracy of the material. The accuracy of this information, however, is not guaranteed. Laws are often changed without prior notice from the government. The Employee Investment Handbook is sold with the understanding that the publisher and the editor are not engaging in the practice of law or accounting. October 2017 The Employee Investment Handbook is published by scensus, LLC. scensus and the scensus logo are registered trademarks of scensus, LLC. Copyright 2018 scensus, LLC. ll Rights Reserved. This material may not be reproduced in whole or in part in any form or by any means without written permission from the publisher. Copyright is not claimed on any material from official U.S. government sources. Printed in the United States of merica.

3 Employee Investment Handbook This Handbook is designed to provide you with the basic information you need to help you make informed retirement plan investment decisions. The Handbook covers the fundamental concepts of investing, which will serve as a foundation of knowledge. You will need to build on that foundation by carefully reviewing detailed information about the plan and its investment options. You also may find it helpful to read financial industry publications or seek advice provided from a professional investment advisor.

4 Contents 1 Introduction Basic Investment Principles Investment Types Investment Selections... 19

5 1 1 Introduction Congratulations you have the opportunity to participate in a qualified retirement plan or Title I 403(b) retirement plan. This retirement plan is intended to help you save money during your working years so you can meet your financial needs during retirement. s soon as you become eligible to participate in your employer s plan, an account will be established for you. Plan contributions, investment gains and losses, and forfeitures will be credited to your account. Your employer is allowing you to decide how your retirement plan assets will be invested. The plan trustees have carefully selected several diversified investment choices for you to choose from. Each of the investments has its own unique objectives and potential for risk and return. Once you fully understand the concepts in this handbook, you should identify where your investment preferences fall in the risk and return spectrum and what investments best suit you individually. If you have any questions about investing your retirement plan assets, contact your employee benefits manager. Time makes all the difference. Regardless of which stage you re at in life, it s always better to start saving sooner rather than later. Consider the following scenario. Who do you think comes out ahead? Sam starts saving early and keeps saving until retirement. Sherry starts saving early, but saves only for 11 years before stopping. Sally starts saving later, but saves double what Sam and Sherry save per year. (continued on following page)

6 2 Introduction Projected monthly income in retirement [to age 90] Let your money work for you The results: Sam saves the most by more than $300,000. Sherry and Sally are neck-and-neck, although Sally contributed much more money to the account. There is a cost to delaying saving. Put time on your side and start saving early. NOTE: The previous illustrations assume a retirement age of 65 and that the individual receives the monthly retirement payment shown until age 90. The amount saved until retirement assumes an annual investment return of 7%. The monthly payment amount in retirement assumes an annual investment return of 5%. The investment performance shown does not represent the return of any particular investment and does not guarantee any future rate of return.

7 3 2 Basic Investment Principles This section covers some basic investment principles that every participant should understand. Q What does the term investment objective mean? The term investment objective simply means setting an investment goal and determining how you will reach that goal. In general, you should save enough money to cover future financial obligations and enjoy a comfortable standard of living during retirement. Your employer is helping you achieve this investment objective by establishing a retirement plan and allowing you to choose the investment mix that is best for you. Q What is a return? The term return refers to the increase (or decrease) in your retirement plan assets over a period of time. Returns usually are measured over a 12-month period based on the change in capital and the reinvestment of any dividend or interest. This typically is expressed as a percent. EXMPLE If your account is worth $1,000 on January 1, and increases in value to $1,100 by December 31 of the same year, your account has increased 10 percent ($100 earnings divided by $1,000) during the year. Your return, therefore, is 10%. Your account may increase in a variety of ways depending on the types of investments you choose for your retirement plan assets. Certain investments pay interest whereas other investments (e.g., shares of stock or mutual funds) may themselves increase in value or pay dividends.

8 4 Basic Investment Principles Q What kind of risk is associated with investments? Though there are many kinds of risk, the one that concerns most investors is the chance that the value of their investments will decrease. There generally is more risk exposure over the short term for investments that have higher volatility. Q What does the term volatility mean and how can it affect my investments? The term volatility refers to a specific investment s potential to fluctuate in value and how often the fluctuations may occur. Some investments are stable, with little or no risk of loss of value. Some investments even provide a guaranteed interest rate. These types of investments are predictable. There is no substantial risk that your investment will be worth less than what you put in, but there is no real opportunity for high returns. Investments that have higher volatility (i.e., their value changes significantly and often) tend to offer greater return potential. For retirement plans, the higher volatility investments generally are best suited to individuals who will leave their money in the investment over a long period of time. (This is discussed in detail later.) Q How do I determine my risk tolerance? The term risk tolerance simply means the amount of risk you are comfortable with. Investors with high risk tolerance typically choose to invest a high percentage of their retirement plan assets in more aggressive investments. Those with low risk tolerance typically choose to invest a higher percentage of their retirement plan assets in more conservative investments. Your risk tolerance is a measure of how willing you are to accept the possibility of losing money in exchange for the possibility of higher returns. For the well-informed investor, factors such as age, lifestyle, and future needs shape risk tolerance.

9 Basic Investment Principles 5 Q How does dollar-cost averaging affect my investments? One advantage of a retirement plan is that once you select your investment mix, you will make regular investments through changing market cycles. Because you invest routinely, you will automatically buy more shares when the market is down and fewer when it is high. This brings the average cost for your shares down, and is referred to as dollar-cost averaging. The following example illustrates the concept of dollar-cost averaging. EXMPLE You become eligible to participate in your employer s retirement plan. You invest $50 each month for 12 months. Month Investment Market Price/ Shares Share Purchased January $50 $ February March pril May June July ugust September October November December $600 $

10 6 Basic Investment Principles When the price per share on your investment began to decline in March, you began to buy more shares with the same contribution amount because you were buying them at a lower price. You did not panic and sell because you have a long-term investment objective and decided that the long-term benefits of the fund outweighed the short-term reductions in price. t the end of the year, you determine that the average price per share during the year was $12.25 ($147 12). But because you bought more shares when the price was low, your average cost per share is $11.28 ($ shares). Your investment of $600 has increased to $744 simply because you purchased more shares when the price was low. Your return is 24% for the year the magic of dollarcost averaging.

11 7 3 Investment Types This section describes the most common investments available to investors and provides the major characteristics of each investment type. Stocks Q What is a share of stock? share of stock technically is a certificate that represents ownership of a corporation. EXMPLE If a corporation sells 100 shares of stock and you purchase 10 of those shares, you own 10% of the corporation. Q How can I earn a return if I invest in stock? You can earn a return in one of two ways through dividends and capital gains. Dividends Dividends are payments made by a corporation to its stockholders. Whether dividend payments will be made and how much they will be generally is determined by a corporation after it pays all of its expenses and taxes, makes decisions regarding how much capital will be needed throughout the coming year, etc. Capital Gains capital gain is the difference between the sale price and the purchase of a share of stock.

12 8 Investment Types EXMPLE If you bought one share of BC Corporation s stock for $10 and later sold the same share of stock for $12, you earned a $2 capital gain. Capital gains generally are the result of an increase in the market value of corporations. Q re there different types of stock? Yes. Some of the major categories of stocks and their characteristics are described below. Blue Chip Stocks Blue chip stocks are high quality stocks issued by major corporations that generally have a long history of stable earnings and dividend payments. These corporations usually are very large, mature, and stable. Blue chip stocks generally are considered to be more conservative stock investments as compared to other types of stocks. Growth Stocks Growth stocks are issued by corporations that generally are growing faster than the economy as a whole. lthough the potential for capital gains is high, growth stocks typically pay very low dividends if they pay dividends at all. Because the companies are often younger and untested, they may be less stable and their stock may tend to fluctuate more in price. Income Stocks These are stocks of corporations that provide current income to investors. These stocks may pay higher than average dividends. Defensive Stocks These are stocks of corporations that are expected to do well even if the economy does not. Companies that provide life s essentials (e.g., utility companies) typically are categorized as companies whose stock is considered defensive stock.

13 Investment Types 9 Q re there risks if I invest in stocks? The degree of risk varies from stock to stock. s discussed earlier, the price of a stock generally rises when a corporation s market value increases. Conversely, a corporation s stock may decline if the corporation s market value decreases. Therefore, stocks are considered more risky than other investments (e.g., bonds or certificates of deposit). Bonds Q What are bonds? bond is an investment that represents a loan from an investor to a corporation, a government, or a government agency (i.e., the issuer). Q How can I earn a return by investing in bonds? There are two ways you can earn a return by investing in bonds interest and capital gains. Interest Because a bond is a certificate representing a loan, the issuer who borrows money from you pays you interest. EXMPLE If you buy a bond from Company for $1,000, you are lending Company $1,000. In return, Company will pay you interest at a rate specified in the bond and will later repay your initial investment of $1,000.

14 10 Investment Types Capital Gains Over time, a bond s market value (the price you can sell it for) will change as interest rates change. Specifically, a bond s value increases as interest rates decline and decreases as interest rates rise. If you buy a bond and the value increases because interest rates decline, you have earned a capital gain equal to the amount of the increased value of your bond. EXMPLE Joe buys a bond from BC Corporation for $1,000. Because current interest rates are 5%, BC Corporation agrees to pay Joe $50 per year (5% of $1,000) until BC Company repays Joe the $1,000 he loaned to them. When the interest rates fall to 3% BC Corporation must continue to pay Joe $50 in interest per year. In addition, Joe s bond has increased in value to $1,200 because of the decline in interest rates. Joe has earned a $200 capital gain ($1,200 1,000 = $200). The reverse would have been true if interest rates rose; Joe s bond would have declined in value. Q re there different types of bonds? Yes. Some of the major types of bonds and their characteristics are described below. Debentures Debentures are bonds that are not secured by collateral or physical assets. They are backed only by the issuer s general creditworthiness and its promise to pay back the loan. Mortgage Bonds Mortgage bonds are secured by some, or all, of the issuer s property. If the issuer cannot pay back its loan, investors who have purchased bonds are entitled to the property (specified assets of the company) as a form of repayment.

15 Investment Types 11 U.S. Treasury Bonds U.S. Treasury Bonds are issued by the U.S. government, which guarantees payment of principal and interest. lthough these bonds fluctuate in value as interest rates change, they are considered to be the highest quality of all bonds and are not subject to state and local income tax. Q re there risks if I invest my retirement plan assets in bonds? There are two types of risk if you invest in bonds interest rate risk and default risk. Interest Rate Risk If you invest in bonds, you will be paid the same amount of interest even if interest rates rise. The risk that interest rates will rise while the interest payments you receive do not is called interest rate risk. In addition, a rise in interest rates causes the underlying value of bonds to decrease. Default Risk Because a bond is essentially a loan, there is some risk that the bond issuer may not be able to pay your money back. To help investors determine which issuers will likely repay their loans, certain rating organizations (e.g., Moody s) assign bond ratings. EXMPLE rating organization may assign a rating to one company s bonds while assigning a BBB rating to another company s bonds. The rating organization may consider the bonds with a BBB rating riskier than the bonds that received a rating, because the issuer may not be as creditworthy.

16 12 Investment Types Mutual Funds Q What are mutual funds? mutual fund consists of a pool of money from multiple investors. Professional money managers invest the pool of money in stocks, bonds, or other securities according to the fund s objective. s an investor, you own a portion of all of the investments in the fund. Owning a portion of all of the investments provides diversity, which decreases the fund s overall risk and volatility. EXMPLE BC Mutual Fund Company sells a total of 1,000,000 shares of XYZ Fund to investors at a price of $15 per share. BC Mutual Fund Company in turn purchases shares of stock in many different companies for its portfolio. If you purchased 100 shares in the BC Mutual Fund Company, the value of your investment will depend upon the total value of the stock in the fund s portfolio and your pro rata share. There generally are two types of mutual fund investors: retail investors and institutional investors. Retail investors are individuals who tend to buy small quantities of mutual fund shares (e.g., 100 shares at $5 per share). Institutional investors generally are organizations (e.g., pension funds) that buy mutual fund shares in bulk (e.g., 10,000 shares at $100 per share). Buyers of big blocks of mutual fund shares usually receive a break on commission charges. Because of the large investments required to receive these breaks, individual retail investors generally cannot afford these shares.

17 Investment Types 13 Q How can I earn a return by investing in mutual funds? If you invest in mutual funds, you may earn returns in the same manner that you could earn returns if you invested in stocks, bonds, or other securities. Dividends may be paid and the shares value can fluctuate, resulting in capital gains. The manner in which returns are earned depends on the type of investments purchased by the mutual fund company. Q re there different types of mutual funds? Yes. Some of the most common types of mutual funds and their characteristics are described below. Money Market Mutual Funds Money market mutual funds invest in short-term securities such as treasury bills or certificates of deposit (CDs). Their objective is to pay current income and to keep a constant share price. lthough they are considered the lowest risk mutual funds available, they do not typically offer high return potential. Stock Funds Stock funds may have a variety of objectives. For example, an income fund is a type of stock fund that invests in companies with a history of consistently paying dividends, thereby providing a higher level of current income for investors. Growth funds, on the other hand, seek capital gains rather than a steady stream of dividend income. Bond Funds Bond funds seek to provide a high level of current income (e.g., payment of dividends). They typically invest in one or more types of fixed income securities including investment grade corporate bonds, U.S. government bonds, or high-yield, higher risk, corporate bonds.

18 14 Investment Types Index Funds Index funds are designed to match the return and other characteristics of a market index (e.g. Standard & Poor s 500 Index). They mainly invest in the securities of corporations that are included in a selected index. The management of index funds is more passive than the management of nonindex funds. This usually leads to less trading of the fund s portfolio, more favorable income tax consequences, and lower fees when compared to more actively managed funds. But because an index fund tracks the securities on a particular index, it may have less flexibility than a nonindex fund to react to price declines in the securities contained in the index. Balanced Funds s the name implies, balanced funds seek to balance the needs of many investors. Such funds seek both income and capital appreciation by investing in a generally fixed combination of stocks and bonds. Target Date Funds These funds are designed to make investing for retirement more convenient by automatically changing your investment mix or asset allocation over time. Target date funds (TDFs) often hold a mix of stocks, bonds, and other investments. Over time, the mix gradually shifts according to the fund s investment strategy. TDF does not guarantee that you will have sufficient retirement income at the target date, and you can lose money. You must still decide before investing and periodically thereafter whether the fund fits your financial situation. Q re there risks if I invest in mutual funds? Yes. Just as a mutual fund s value may increase, it also may decrease. Mutual funds, however, generally are considered to be safer than other investments (e.g., investing in the stock of just one or two companies). Because mutual funds invest in several types of securities and are diversified, a decrease in one security s value may be offset by an increase in another security s value within the mutual fund.

19 Investment Types 15 nnuities Q What are annuities? nnuities are contracts between investors and insurance companies. Under an annuity contract, the investor deposits a certain amount of money with the insurance company. In exchange, the insurance company agrees to make payments back to the investor at a specified time, or times, under an established set of rules. Q How can I earn a return if I invest in annuities? Insurance companies provide a guaranteed interest rate to investors in fixed annuities. If you invest in variable annuities you will earn a return in the same way you would if you invested in a mutual fund. (See the discussion on pages for an explanation of mutual funds.) Q re there different types of annuities? Yes. The two primary types of annuities are described below. Fixed nnuities s the name indicates, fixed annuities are those in which insurance companies agree to pay a fixed amount of money over a period of time in exchange for premiums paid by the annuitant. In general, insurance companies conservatively invest the money in a fixed annuity. Variable nnuities Variable annuities generally are invested in shares of various mutual funds. The mutual funds allow you to invest your dollars conservatively, moderately, or aggressively.

20 16 Investment Types Q re there risks if I invest in annuities? Yes. If you invest in fixed annuities you are subject to both interest rate risk and default risk. (See the bond discussion on page 11 for an explanation of interest rate risk and default risk.) If you invest in variable annuities, you are subject to the same risks associated with investing in mutual funds (described on page 14). Guaranteed Investment Contracts Q What are guaranteed investment contracts (GICs)? GICs are arrangements in which investors deposit money with insurance companies in exchange for a guaranteed interest rate in addition to the return of the principal amount invested. Q re there risks if I invest in GICs? The risks are similar to those associated with bonds and annuities (i.e., interest rate risk and default risk). With GICs, you will earn a specified interest rate for a certain period of time on the money you invested. If interest rates rise, you will continue to earn the same interest rate for the period stated in the GIC. GICs essentially are loans from investors to insurance companies. lthough use of the word guaranteed implies no risk to investors, there is always the possibility that an insurance company will not be able to make its principal and interest payments on your investment in the GIC. Unlike some investments (e.g., CDs) issued by banks and other financial organizations, GICs are not insured by the federal government. Nonetheless, GICs are considered a safe investment with a low risk of default.

21 Investment Types 17 Cash Equivalents Q What are cash equivalents? Cash equivalents are investments that are easily converted to cash. Examples of cash equivalents are U.S. Treasury bills and short-term CDs. Q How can I earn a return if I invest in cash equivalents? Financial organizations pay a stated interest rate on the money deposited in cash equivalents. Because cash equivalents generally are safe, short-term investments, the interest rates paid on cash equivalents typically are lower than the returns on stocks and bonds. Q re there risks if I invest in cash equivalents? Cash equivalents are subject to interest rate risk. If you invest in cash equivalents, you generally will be paid the same amount of interest even if interest rates rise. They are considered the safest of all investments and are sometimes backed by federal or private insurance.

22 18 Investment Types Q How can I compare the level of risk associated with different types of investments? The following table provides an overview of the level of risk associated with different types of investments, as well as some general characteristics of each risk level. Risk/Reward High Main Investment Types ggressive Growth Stocks Growth Stocks Objectives/Characteristics Long-term growth. Common stock investments in small, fast-growing, or new corporations. Often subject to significant market fluctuations. Moderate Low Growth and Income Stocks Long Term Bonds Short and Intermediate Term Bonds Money Market Instruments Guaranteed ccounts Long-term growth and income. Investments in stable, mature corporations often with proven track records or in ones guaranteed by the U.S. government. Focus on income, with little to no risk to principal. High liquidity. Security of principal and interest.

23 19 4 Investment Selections This section explains how to come up with an investment strategy that works for you. Q How do I start planning for a successful retirement? long-term focus is essential for successful retirement planning. Stocks and bonds have historically provided returns better than both cash equivalents and the inflation rate. It pays to be a long term investor rather than a short-term speculator. The market goes through cycles of highs and lows, and, understandably, an investor can become nervous. The media can make matters worse by drawing even more attention to short-term swings in the marketplace. These concerns are often exaggerated and are less important when viewed in a long-term context. Q How do I create an investment strategy? Only you know your financial situation well enough to determine your strategy. Planning for your retirement requires a long-term strategy. lthough you may wish to speak with a financial advisor, defining your investment strategy will be easier if you understand the generally accepted principles outlined below and on the following pages. Q How do I determine the correct level of investment risk? When selecting investments for your retirement plan contributions, a key factor is how much risk and how much volatility you are willing to accept. Conservative investments typically provide slower, steadier growth while aggressive investments tend to fluctuate more often and have a greater risk of loss in the short term. The concern with conservative

24 20 Investment Selections investments is whether the returns will keep pace with inflation over the long term. Volatile investments present a greater chance to gain or lose money in the short term. But over the long term, volatile investments (such as stocks) have historically provided good, solid returns. Q Should I invest on a consistent, periodic basis? One advantage to having a retirement plan is the ability to invest a specific amount of money each payroll period. Two principles apply here: first, the more money you invest, the more your nest egg will grow; second, investing on a periodic basis benefits from the principle of dollar-cost averaging. Q How do I diversify my holdings? Diversification can be achieved in two ways. First, buying mutual fund or annuity shares (rather than individual stocks and bonds) gives an investor instant diversification (as well as excellent liquidity). Mutual funds must have their assets diversified across a variety of individual stocks or bonds. Second, it may be a good idea to invest in a broad range of assets such as U.S. stocks, U.S. bonds, foreign equities, foreign bonds, real estate, etc. Historically, diversification across asset classes has reduced the risk of owning those assets singularly. Q How do I maintain some liquidity? If you have a near-term need for cash, keep a portion of your funds in short-term assets (e.g., money market funds). This may help you avoid liquidating long-term securities under potentially adverse market conditions. But remember, short-term securities may not have the return potential needed to reach long-term goals.

25 Investment Selections 21 Q What s the right investment mix for me? There is neither a right nor wrong investment mix. To make the most of your retirement plan, you need to match your investment mix to your objectives, keeping in mind the length of time until you retire and the amount of risk you can tolerate. In general, if you are nearing retirement (e.g., in less than 10 years), you may choose to construct your investment mix to protect the principal. This type of investment mix is often referred to as a conservative mix characterized by stable, low risk investments. lternatively, if you are 10 to 20 years or more away from retirement and you can tolerate some risk and price fluctuation, you may choose to construct your investment mix toward growth-oriented investments. lthough growth-oriented investments can rise and fall over a short period of time, over a longer period of time, the risk of loss generally diminishes and the opportunity for better returns is present. The following page contains some samples of typical investment mixes.

26 scensus provides administrative and recordkeeping services and is not a broker-dealer or an investment advisor. #760 (10/2017)