Workers are starting to catch on to all the ominous warnings of what will happen if they don't save enough for retirement, and the average 401(k) account increased 17% in 2006 from the previous year.

Those were two of the key findings in the report "401(k) Plan Asset Allocation, Account Balances and Loan Activity in 2006" that the Employee Benefit Research Institute and the Investment Company Institute, both headquartered in Washington, released last week.

For the fourth year in a row, the average account balance increased, which could be due to higher contributions and high market returns, said Sarah Holden, senior director of retirement and investor research at the ICI.

The report gathered information from a database of 20 million participants in 53,931 401(k) plans with combined assets of $1.22 trillion.

Over a seven-year period-from the peak of the bull market at 1999, through one of the worst bear markets, to the end of 2006-the average 401(k) balance increased at an annual growth rate of 8.7% to $121,202 at year-end 2006.

In that timeframe, the average account balance of all investors increased 79%, from $67,760 at year-end 1999 to $121,202 at the end of last year.

"We are able to see that the strategy of saving money paycheck to paycheck pays off for employees, and people can accumulate a nice nest egg," Holden said.

Younger participants' account balances are smaller, but contributions produce significant growth in them. The average account balance for savers in their 20s reached $28,248 at year-end 2006, growing at a 41% annual average growth rate since 1999.

Older participants show more reserved growth. The average account balances for participants in their 60s rose to $157,727, an increase of 3.7% a year in the seven-year span.

The lower growth rate is partly due to savers' changing investment strategies, said Jack VanDerhei, a Temple University professor and EBRI fellow. "When they're younger, they're probably investing much more aggressively," he said. "It's when they're getting closer and closer to retirement and starting to become more risk-averse that you start to see those rates phasing down."

The average account balance for people in their 50s at the end of last year was $157,727, $148,927 in their 40s and $108,262 in their 30s.

The study also looked at recent hires in today's 401(k) plans. "There are positive trends in place," Holden said, pointing out that 401(k)s have only been in existence for 26 years and that plan specifications have changed a lot, with many more choices available to investors than when 401(k)s were first offered.

Recent hires are diversifying their portfolio more, Holden said. Employees are putting fewer investments in company stock, and when they do, there is less concentration, she noted.

Forty-seven percent of participants surveyed are in plans that offer company stock as an investment option, and of them, 67% hold 20% or less of their account balance in company stock. A small group, 9%, have more than 80% invested in company stock.

Overall, however, the amount of 401(k) assets in company stock last year was 11%, down from 13% in 2005 and 19% in 1999.

Lifecycle funds are popular across all age groups, but are especially appealing to younger employees, the report found.

Twenty four percent of recent hires in their 20s were invested in lifecycle funds, compared with 19% in 2005, and 7% in 1998. Among the twentysomethings who invested in lifecycle funds last year, 19% put close to 90% of their portfolio in balanced funds.

"Recent hires are getting the message on the one-stop-shopping that lifecycle funds offer," Holden said. Automatic enrollment options are also increasing lifecycle fund use, Holden said.

However, balanced fund use still varies widely. Fifty-nine percent of participants held no balanced funds at the end of last year, while 12% held more than 80% of their accounts in the funds.

Equity Exposure

Examining all 20 million participants found that the younger the employee, the more equity securities they have in their 401(k) plan. Older employees still have some equity exposure, especially as life expectancies are increasing and people are not allocating their plan to all fixed income securities such as bonds or money funds right when they retire, Holden noted.

Overall, 49% of participant account balances are allocated to equity funds. However, the figures run the gamut from almost 36% of participants holding no equity funds and 21% holding more than 80% of their account balance in equity funds.

The report also looked at loan activity among 401(k) participants, and found it is scant. Last year, among the 85% of participants eligible for loans, only 18% had taken one, with the loans averaging 12% of assets.

"There's always been concern that individuals are going to undo the benefits of 401(k) plans by taking the money out prior to retirement," VanDerhei said. "We've been studying loan activity since 1996, and activity among those participants continues to be limited."

The average unpaid loan balance is $7,292. Older participants are less likely to have a loan, and typically people in their 30s, 40s or 50s have outstanding loan balances. Reasons for taking out a loan could include paying for education, buying a home or paying off bills, Holden said.

Having the option to take a loan has increased participation and contribution rates, Holden said, but most participants do not take one out. "It is not a good idea to seek out a loan, she added. The money saved stops working for the employee and essentially "you have to pay yourself back," she said.

(c) 2007 Money Management Executive and SourceMedia, Inc. All Rights Reserved.

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