Workers still fill 401(k)'s with employer's stock

On top of all the other troubles at Countrywide Financial Corp., the mortgage giant faces a lawsuit from an employee alleging that workers lost hundreds of millions of dollars in their 401(k) retirement plans by holding the company's stock.

The California worker claims executives knew that Countrywide's risky lending practices made the stock a poor investment.

Merits of the case aside, it shows we still haven't mastered the lessons from Enron Corp.

After that company's implosion wiped out workers' nest eggs, Congress made it easier for workers in 401(k)'s to sell employer stock and diversify. Even some employers have started shooing workers away from company stock.

Surveys show investment in employer stock has fallen on average. But benefits experts said they still see individual accounts that have 70 percent or more of the money in employer stock.

"If I said, `I have a great idea. Put 80 percent in GE stock.' What would you say? I'm out of my bloody mind," said Michael Scarborough, president of the Scarborough Group, which manages workers' 401(k) accounts. "But they will do it if they work there."

At Countrywide, about one-third of the $1 billion of 401(k) assets at the end of last year was invested in company stock, making it the single-largest holding, according to the lawsuit.

Countrywide said in a statement that the lawsuit has no merit. It said workers decide how to invest their money and are free to trade any vested shares they receive as a matching contribution and put the money into something else. Many experts agree that holding one-third of your portfolio in a single stock is too much.

Last year's Pension Protection Act, for instance, requires 401(k) quarterly statements to warn workers that holding more than 20 percent of their portfolio in any one company or industry could leave them inadequately diversified.

The law went further to help workers diversify their 401(k) accounts. It requires that workers be allowed after three years on the job to sell company stock that was given to them as a matching contribution. And the Labor Department can assess a penalty on employers for not notifying workers of this.

But even before Congress intervened, employers were taking steps to get workers to diversify, such as lifting restrictions on stock sales. Their motive isn't entirely altruistic.

"They are looking to reduce exposure to lawsuits. That's been the fundamental driver," said David Wray, president of the Profit Sharing/401(k) Council of America in Chicago. "Any time a stock has dropped 10 percent in a period of three or four months, there has been a lawsuit."

Some employers have stopped matching workers' contributions with company stock. This year, 23 percent of midsize and large employers offered company stock as a match, compared with 36 percent two years ago, according to a survey by Hewitt Associates.

Companies also have been capping how much employer stock their workers can buy, Wray said. Frequently, once employer stock becomes 20 percent or 25 percent of your account balance, you can't buy more shares, he said. (You don't have to sell the stock you own, so it can grow into a bigger share of your portfolio if the price climbs.)

Hewitt found that among employers offering their own stock in a 401(k), 22 percent of plan assets this year were invested in company shares. That's down from 26 percent two years ago.

If you look at individual accounts, though, company stock can make up 5 percent to as much as 80 percent or 90 percent of a worker's portfolio, said Pamela Hess, director of retirement research at Hewitt.

So why do some workers risk 90 percent of their nest eggs on a single company?

Partly, it is inertia. Workers receive employer stock as a match and let it accumulate. Partly, it is comfort. Many adhere to Fidelity Investments legend Peter Lynch's buy-what-you-know philosophy and figure they know their employer best.

And partly, they often are confident, maybe too much so, that what happened at Enron can't happen to them.

"Other people's houses burn down, not mine. It goes back to the comment, `I know my company. I know what they are doing,' Really?" Scarborough said. "Unless you own the company, you have no clue if there is fraud going on."

But it doesn't even have to be something as drastic as that. Even good companies go through slumps. And you don't want to hit a bad stretch just as you are about to retire.

You also don't want to "mistake a good company for a good stock," said Christopher Jones, chief investment officer of Financial Engines, a 401(k) adviser. The company may be solid, but the long-term growth prospects of the stock could be lackluster.

So assuming you don't have millions of dollars invested outside your retirement account and can afford to take big risks, what is the right amount of company stock in a 401(k)? None, said Scarborough. You're tying too much of your financial future to one company.

Some experts don't go that far, but many side with Jones' view that "generally, anything over 20 percent is pretty dangerous." Even then, those approaching that outer limit should be younger workers who have more time to recover from setbacks in the stock.

Others urge keeping employer stock at 10 percent or less. That has been the legal limit for employers who invest traditional pension money in their own stock.

Added John Hotz, deputy director of the Pension Rights Center, "If you don't know why you should have more than 10 percent, then you certainly shouldn't."

Eileen Ambrose is a columnist for The Baltimore Sun, a Tribune Co. newspaper.