Your 401(k) account was originally designed as a place where you could sock away money for your retirement. With any luck, your employer would kick in a little with you, and the Internal Revenue Service would leave it all alone until you started pulling money out. However, some investors have started trading with funds in their 401(k) accounts, attempting to increase their returns.In some situations this type of frequent trading is is allowed, while in other situations it is not.
Some 401(k) plans contain excessive-trading rules which effectively limit the number of day trades investors can make with these funds.
401(k) Trading Rules
401(k) fund sponsors vary in how much trading they allow you to do. It's not against the law to trade funds in and out of your 401(k) every day. However, some fund sponsors frown on the practice. If you trade in and out of funds in a commission-free account without paying any sales loads on the funds, the sponsor or the fund has to absorb the cost of your frequent trading. With this in mind, some funds have instituted excessive trading rules that bar you from trading too frequently in your account.
Trading in Your 401(k)
Assuming your plan allows you to trade in your 401(k), the general principle behind the practice is that you can benefit by switching out of stock funds after the market goes up and switching back into them after the stock market goes down. In between those periods, you may choose to put your money in a money market account offered by your 401(k) plan. Theoretically, this will give you higher returns than if you remained invested in the market through its ups and downs.
Drawbacks to 401(k) Trading
One of the biggest drawbacks to trading in your 401(k) is that you could end up losing your ability to trade if you run afoul of your plan's excessive-trading rules. In addition, aggressively day trading can be very risky, because it can be challenging to trade based on daily price fluctuations. It may not always bring gains, either, as many active investors find it hard to outperform stock indexes over the long term.
Occasional 401(k) Trading
Whether or not making frequent trades in your 401(k) is for you, it's also possible to go too far over to the other side of the spectrum. According to 401(k) day trading expert Richard Schmitt, approximately 87 percent of 401(k) account holders don't do any trades in a given year. While a "set-and-forget" long-term strategy may be wise, it can still be a good idea to periodically look at a retirement portfolio to ensure that the funds are properly allocated and yielding gains.