29 Jun 2018 401k Bombs and the Fall of GE
In Barbarians at the Gate, a thrilling tale of the buyout of RJR Nabisco in the late 80s, there is an account of the development of a smokeless cigarette product called Premier that, while being ahead of its time in some respects, was also a complete disaster. From the very first test groups of people trying these “cigarettes,” no one ever liked the taste or smoking experience of Premiers, and yet, largely due to the blind optimism of RJR Nabisco’s CEO Ross Johnson, the company continued to push the product all the way to market, where it landed with about as much acclaim as New Coke.
Some mistakes only reveal themselves in hindsight, while others are entirely avoidable, and the Premier smokeless cigarette was certainly one of those entirely avoidable ones.
In the last couple of weeks another one of those entirely avoidable mistakes has gotten a bit of press, and it’s one that hits closer to home. You may have seen on the news that General Electric, the last remaining original member of the Dow Jones Industrial Average, was recently demoted from that list of blue chip companies. This was just a formality, really, as the company’s stock is down roughly 60% since the end of 2016, a period where the S&P 500 is up some 25%.
Where is the avoidable mistake in all of this? It’s simply this: more than a third of GE’s entire 401(k) plan was invested in GE stock. So, the average GE employee with a third of their 401(k) in their own employer’s stock saw 20% of their wealth go away, when if they had simply diversified that third of their holdings into something as simple as an S&P 500 index fund they would have seen over an 8% increase.
There are a lot of reasons people hold large amounts of stock in their own employer: They feel a sense of loyalty to the company and view owning stock as a way to show that. Or they believe that their knowledge of their department within the company is a proxy for knowledge about the future stock price. Or they may even hold it because the company matches contributions with stock instead of cash and they simply don’t bother selling.
Whatever the reason, this is one of those things that can cause your finances to fail really fast. It doesn’t just represent a serious lack of diversification in your portfolio (which is dangerous enough!), but it effectively squares the overall risk within your financial picture, because as many employees at GE are seeing as their CEO is cutting costs and selling divisions to keep the freefall from going further, the moment your employer’s stock is down 60% is also the moment your job might be on the line.
As we were talking about this in the office the other day, Geoff made a comment which I think puts our thoughts on this succinctly. He said, “There are two things that make me want to stop a meeting immediately and walk someone through an emergency action. The first is if someone has kids at home and I find out that the parents have no life insurance. Let’s fix that ASAP, for the sake of the whole family. The second is when I see folks holding a bunch of their employer’s stock in their 401(k). It’s nothing to mess around with.”
The GE folks (and the Enron folks, and the Nortel folks, etc. etc.) have learned this firsthand. Don’t wait to learn it yourself!