Gary R. Mottola and Stephen P. Utkus
WP2007-14
Abstract —One measure of financial literacy is the quality of portfolio decision-making in 401(k) plans. Applying a qualitative framework to a dataset of nearly three million 401(k) accounts, we estimate that 43% construct green portfolios with balanced exposure to diversified equities, while 26% construct yellow portfolios with possibly too-aggressive or too-conservative equity holdings. Another three in ten participants make egregious errors and have red portfolios–either holding zero in equities or over concentrating their account in employer stock. Using a subset of our sample, we estimate the costs of portfolio errors (and the potential gain from improved allocations) at roughly 60 to 350 basis points in expected real return per year, depending on the initial portfolio held. Low income, low wealth and female participants are more likely to experience the largest gains from better portfolios, given their tendency to hold less aggressive portfolios.