As if swelling consumer debt and negative savings weren't big enough obstacles to attracting young investors, the Federal Reserve recently released a survey showing that workers today are earning less than a few years ago.

Adjusted for inflation, heads of households younger than 35 have suffered a 4.2% drop in income, that is, wages and investment income, while the incomes of those between 35 and 44 have dropped by 10.1%, according to the 2001-2004 Survey of Consumer Finances.

What's more, the only group to see increased income, to the tune of 7.6%, are those closest to retirement, between 55 and 64 years old.

Facing the potential outflow of billions of dollars as those Baby Boomers retire, the challenge for mutual fund companies and 401(k) plan providers is to convince young people that they cannot allow a squeeze on their spending power to push them out of the marketplace.

"Part of it is awareness, and part of it is education," said Robert Barkin, vice president of ICMA Retirement in Washington.

Too often, young people perceive investing as an activity for the already wealthy, citing the increased costs of housing, energy and education, not to mention keeping up with a consumer culture that suggests iPods are as essential to survival as, say, water.

"One of the indisputable advantages of mutual funds is that there is very little entry cost," Barkin said. And there are measurable benefits. According to the Federal Reserve study, those households that owned shares of pooled investment funds, a category that includes mutual funds, on average, enjoyed 8.3% appreciation, boosting their incomes during the same period that wages dropped, on a pre-tax basis, an average of 3.2%.

Then there is the even more pain-free company-sponsored 401(k) plans, where contributions come out of the paycheck, and, by and large, there are no upfront minimums. Between 2001 and 2004, the average retirement account rose 11% in value. "That's why it's important to start these seed accounts," Barkin said. "It's an opportunity to get going."

The psychology of getting going is much harder than the reality. It's frightening for many 26-year-olds to hand over a portion of the pay they could use now, knowing they won't see it for at least 33 years.

But investors need to put the news in perspective, said David L. Wray, president of the Profit Sharing/401(k) Council of America in Chicago. First of all, while wages may be dropping on an adjusted-for-inflation basis, people are still seeing more dollars-per-paycheck over time, Wray said. Second, the Federal Reserve survey measures income and pay scales on a pre-tax basis. Changes to the tax code mean that even after inflation, the buying power of one's paycheck, compared to that in 2001, may not be all that different after all. Third, participating in a 401(k) plan, typically a pre-tax deduction, may even help workers lower the amount they hand over to Uncle Sam.

Then there is the issue of trust, said Don Cassidy, a senior analyst at Lipper of New York. Young people dropped out of the market in droves between 2000 and 2002 because of the bear market, which in particular spooked young, inexperienced investors, Cassidy said. And then there's those investors whose first foray into the marketplace started in the mid-1990s. They grew accustomed to returns as high as 30% in some sectors by the end of the decade. "Certainly those expectations have been reduced, and for some they are negative," said Cassidy.

Then came the mutual fund scandals of 2003, which made investors wary of hidden fees and not-so-honest advice.

To overcome this disillusionment, fund companies have been engaging in "a lot of trust building," Wray said. Many fund companies have been doing their part to lure young investors back using a combination of new products and aggressive marketing campaigns. From celebrity endorsements, such as the recent teaming up of American Century Funds with seven-time Tour-de-France winner and cancer survivor Lance Armstrong to promote a new line of funds under the LiveStrong brand name, to the recent proliferation of lifecycle funds, which are promoted as buy-and-hold portfolios on auto-pilot that go from aggressive to conservative as investors approach retirement, companies are competing to convince young people that investing is safe and easy.

Last week, Boston-based Fidelity announced expanding its Freedom Funds line by adding a fund for those with a target retirement date of 2050 (see At Deadline, page 1). That makes the target audience about 21, assuming investors retire at 65. "The concept is to pay yourself first," said John Sweeney, vice president of Fidelity Personal Investments. "You learn to live off what's remaining."

Employers are also pushing for greater participation. Many realize that asking employees to proactively reduce their take-home pay now so that they can benefit later is too psychologically straining. Thus, they are changing the rules so that employees must opt out of 401(k) plans, rather than proactively get involved.

"Habits have to be changed, and it has to be both sides," Cassidy said.

(c) 2006 Money Management Executive and SourceMedia, Inc. All Rights Reserved.

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