What kind of return can we expect from a 401(k)?

Five golden eggs, expecting a return on their 401(k)

How much can we really expect our 401(k) retirement plans to earn each year?

We asked Christine Benz, director of personal finance for Morningstar, a respected provider of independent investment research.

She said 5% a year is a good conservative estimate to use for planning purposes.

Of course, your actual return depends on the plan you have, the fees you pay and the long-term performance of the stock and bond markets.

But 5% is not unrealistic, and it's a good figure to use in judging how well your account is doing.

It's easy to get dazzled by the good years and think you should be doing better.

From 2011 to 2016, mutual funds that were heavily invested in stocks — a common component of 401(k) plans — did much better than that.

But that gain came after a steep decline tied to the financial crisis of 2007-2009 and, even as stocks recovered, included several headline-grabbing drops along the way.

That's why it's costly to panic and sell when markets fall. You'll just lock in your losses.

"You want to avoid getting too caught up in the short term and think about what you're trying to achieve," Benz says. "Think of it as a multiyear process and not a short-term endeavor."

Building financial security

A 401(k) plan is one of the best options you have to build financial security for the long-term.

First, it allows you to make pretax contributions to a savings plan and grow your money. Second, if your employer offers matching contributions, that's free money to add to the pot.

"What you don't want to do is not contribute or let money sit in a savings account earning nothing," Benz says.

That's especially true in this period of rock-bottom rates for certificates of deposits, money market and savings accounts.

Brightscope, a financial information company that provides analytics on investments and retirement plans, provided a list of mutual funds, and Morningstar provided the performance data as of Sept. 9, 2016.

Returns and Expenses

The Biggest Mutual Funds Commonly Found in 401(k) Plans

Mutual FundTicker SymbolDescriptionAverage Annual 5-Year ReturnManagement Expenses

PIMCO Total Return PTTRX World's largest fund holds intermediate-term investment-grade bonds 3.60% 0.46%
Vanguard Institutional Index VINIX Large-blend domestic stock fund that tracks performance of the S&P 500 15.45% 0.04%
American Funds EuroPacific Growth AEPGX Foreign large-cap blend fund with stocks in European and Pacific Rim companies. 4.66% 0.83%
Fidelity Contrafund FCNTX Large-cap growth fund that seeks capital appreciation 14.12% 0.70%
Vanguard Total Bond Market Index VBMFX Intermediate-term bond fund 2.76% 0.16%
Fidelity Spartan 500 Index FUSEX Low-cost large-blend fund with 80% of assets tracking the S&P 500 15.38% 0.10%
Vanguard 500 Index VFIAX Very low-cost index fund that tracks the performance of the S&P 500 15.44% 0.05%
Fidelity Growth Company FDGRX Large-cap growth fund that seeks capital appreciation 15.88% 0.87%
Vanguard Wellington VWELX Moderate allocation fund with 60% of assets in dividend-paying stocks 11.10% 0.26%
American Funds Growth Fund of America RGAEX Large-growth fund with $145 billion in assets. 14.96% 0.67%
5-year returns as of Sept. 16, 2016

Mari Adam, president of Adam Financial Associates in Boca Raton, Florida, says what you can expect to earn is also highly dependent on how you invest.

Ideally, you'll want a mix of stocks and bonds in your plan. You'll generally want to be invested up to 90% in equities when you're in your 30s, then move more into bonds as you get closer to retirement.

"I think 6% is a reasonable expectation for retirement planning purposes if you're investing properly for your age," Adam said.

You can get a good asset allocation through a balanced fund or target-date fund.

Use our 401(k) calculator to estimate your potential earnings.

Thinking about bonds

While stocks have the potential for rapid gains when the market is going strong, bonds are also essential to provide some stability when stocks are down.

One of the most common balanced funds found in 401(k) plans is the Vanguard Wellington, which holds about 65% in stocks and the other 35% in bonds.

Wellington owns a lot of large-cap stocks, such as Wells Fargo & Co., Microsoft and Merck, and a variety of government and corporate bonds.

It's a decent pick for a single-fund 401(k) plan. Its expense ratio is only 0.26%, and it's averaged better than 7% in returns over the last 10 years.

The PIMCO Total Return (PTTRX) is another fund you're likely to find in your 401(k) plan.

It holds intermediate-term investment-grade bonds and has produced an annualized return of 5.97% over the past decade.

Because it's strictly a bond fund, you'll want to pair it with an equities fund.

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Creating a balanced fund

Benz says you can easily create your own balanced fund in most 401(k) plans.

If you wanted a traditional 60/40 mix, you would simply direct 60% of your contributions to a stock fund and 40% to a bond fund. Or you could be more aggressive and use a 70/30 mix or even more in equities.

"It's not very difficult to create a diversified and balanced portfolio with the funds in most plans," Benz says. "It could be the next-best option for someone trying to find their way in a 401(k) plan without a lot of information."

A couple of solid equities funds you may find in your plan include the Vanguard Institutional Index Fund (VINIX) and the Fidelity Spartan 500 Index (FXSIX).
Both of these are low-cost funds designed to track the performance of the S&P 500 and provide exposure to the broad stock market.

Over the past 10 years, the Vanguard fund has averaged 7.34%, while the Fidelity fund has averaged about 7.3%.

Other popular bond and equities funds, including the Fidelity Contrafund, Vanguard Total Bond Market Index and Vanguard 500 Index, have all produced solid returns in recent years.

It's important to note that past performance should never be seen as an indicator of future returns. The markets will fluctuate, and run-ups will inevitably be followed by periods when the market is flat or falling.

But if you place your 401(k) in funds with an established track record with reputable companies, you should do OK over the long run.

When making that decision, one of the most important factors to consider is expenses.

Considering expenses

Choosing mutual funds with the lowest management fees can make a big difference in how much you wind up with.

And seemingly small fees can add up to big amounts of money over the course of a career.
chart glasses nest egg
Consider that if you invested $5,000 annually for 30 years and averaged a 6% return with a 1% management fee, you'd pay $71,000 in fees during that time.

But if you managed to earn the same return from a fund with a 0.25% management fee, you'd only pay $19,000 in fees.

That 0.75% difference could mean an extra $50,000 in your account when you retire.

As you can see from the chart, there are lots of funds that earned healthy average annual returns over the past five years, despite 2016's mixed record, with expenses well under 1% a year.

That's the combination you want to look for — a history of solid returns with low expenses.

Those are the mutual funds that can help your retirement account grow.

But Adams notes that the single biggest boost to your 401(k) comes from employer matching contributions.

"People get focused on how much they're making on investments," she said. "But if your employer is matching up to a certain amount, that's a 100% gain on that money right there. That's why you need to take full advantage of matching contributions if you have them."

  • Tony Edwards

    Where are you getting AA or AAA bonds paying 6%? Puerto Rico bonds pay that much but they are low rated and higher risk. Plus don't expect annual return on stocks to be 10 %. More like 7-8. Overshooting expectations will drive you to sock away less money. 401k avg 5% return nationally.

    • John Richards

      So, I think the key here is short term vs long term. I'm thinking 20 years, but you appear to be looking at 5-10 years? Over the past 50 years, 10 year Treasuries have returned about 7%... but I think you're focused on the current environment: I agree, it'll be tough to find current issuance at historical rates in this environment without assume significant credit risk.

      As you note, we're currently in a low interest rate environment. Also, on the equities side, the US market is expected to provide sub-par returns over the next decade (but Int'l markets are expected to do well, especially emerging markets.) I suspect the next ten years we'll see returns that are low relative to long term rates, perhaps more like 6-7% for a diversified 50/50 portfolio, or even 5% if you are US-centric in your investing and the worst case scenario comes to pass. I suspect that the decade after that will see some rebound, such that Long Term returns continue to be about 7-8% for a diversified portfolio. Best guess.

      Average 401k returns lose a couple points a year because the investor has no real plan and moves their money based on emotion. Buy and Hold (& rebalance) would serve them better in the long run. Secondly, small 401k plans often have excessive fees in the plan and/or the funds. I think it wise to adjust expected returns down by the combined fee structure if you are in a high-fee environment.

  • Joshua Flowers

    I don't see down years as a major issue when your still 20-30 years away from retirement. The way I see it is that your are investing in cheap funds because the market is low.
    Personally I have been ultra aggressive with my portfolio. I am heavily into the S&P even knowing how risky that is. The way I see it is that I am buying the shares at their low. Hopefully it pays off.

    • etplante

      Late 30s here and I manage the family retirement portfolio.

      100% invested in ultra low cost equities index funds:
      55% US large cap
      10% US small cap
      5% US REITs
      25% foreign developed
      5% foreign emerging

      Fees on that mix runs about 0.10% per year
      Annual return for 2015 was +0.80%.
      Annual return for previous 10 years was 10.2%.

      The dog in that mix has been the emerging marks index fund which returned -0.10% over the last 10 years. I must be a masochist to stick with it at this point but I tell myself I'm playing the long game.

      Recently opened a brokerage account and will be putting non-emergency savings into a leveraged muni bond fund that pays a 5.5% dividend.

    • Chris Mikulski

      I think you've done well now

      • JF McNash

        Actually, I was 50% into S&P 500 but pulled out pre-trump election over market fears. I missed the initial jump then moved about 25% back into it. I made some money on the S&P for sure, but not as much as I could have if I had just left it as is.

        Lesson learned.

  • The Good Son

    At the moment im at 11.85% , up from 8.5% last year. I dont really know what im doing but im learning as i go along. Does anybody know about precious metal IRAs? I have a few pounds of silver, gold and platinum but not sure if i should just keep them in my safe or find a custiodian.

  • Dave L

    This article states a 401K should return from 5% to 7.34%. If that's true, if you only withdraw 4%, you'll never run out of money, in fact, your nest egg will continue to grow. Doesn't seem like 4% rule is right.

    • Jdm

      As you get older,you are suppose to place more of your investments in bonds. Because they don't lose money in a stock market crash. Its to preserve your capital. In the old days treasuries and bonds paid some good money. Today very little.

  • John Shaw

    completely misleading:

    "Vanguard Wellington .... averaged better than 7% in returns over the last 10

    makes you thing that's 7% per year but it's 7% total!!!

    38.37 now in 2016, 34.24 in 2006, so really 0.7%
    AND had you retired anywhere in the first 6 years you'd have lost principle..

    • Dale Neibert

      Exactly John. Well put.

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  • David Pagel

    Yes...but they still made money.

  • David Pagel

    Over 16 years I averaged 9%.