Out of sight, out of market: The IRA cash drag

We tested a wide range of explanations for why investors stay in cash following a rollover, including intentional reasons, such as risk aversion, and unintentional factors, which might include procrastination or a lack of awareness.

Awareness proved to be the biggest issue: Two-thirds of respondents who stayed in cash following a rollover didn’t know how their IRA assets were allocated. Only one-third said it was intentional and that they preferred holding cash.

“IRA cash is a billion-dollar blind spot,” said Andy Reed, head of investor behavior research at Vanguard. “Many IRA holders want to invest their retirement savings in the stock market and think that they’re invested following a rollover. In reality, they’re sitting in money market funds.” 

Our survey shows that rollover investors who stayed in cash demonstrated high levels of investing knowledge and experience:

• 77% of respondents knew that mutual funds tend to be less risky than individual stocks.
• 71% knew that money markets are a conservative investment.
• 77% owned investment accounts prior to rolling over their 401(k) assets.

And yet close to 50% of those investors mistakenly believed that IRA contributions were automatically invested and 46% did not realize their contributions were allocated to money market funds by default.

“Investors who are used to their 401(k) assets being automatically invested in target-date funds may believe that IRAs work the same way,” said Ariana Abousaeedi, a Vanguard investment strategy analyst who conducted the survey. “But there is no default investment like in 401(k) plans—money in IRAs requires active engagement to get invested.”

While 401(k) plans typically offer a limited menu of funds handpicked by plan sponsors, IRAs offer thousands of choices among funds, individual stocks, bonds, certificates of deposit, and other asset classes. That plethora of choices can be unwelcome: One in four rollover cash investors reported feeling overwhelmed by the number of options. When asked how many options they ideally want to have in their IRA, the median response was 10.

“Choice overload is a real risk for IRA investors,” said Nathan Zahm, head of client experience alpha at Vanguard. “Easing the mental burden by curating options or offering advice can be a big help to investors who might otherwise stay in cash forever. Better yet, a policy change allowing target-date funds to be a default option could solve this problem at scale.”

Many investors who have dutifully saved for their retirement in the workplace are unaware that their rollover assets are sitting in cash. This could result in missed opportunities to earn investment returns and even lead to painful shortfalls in retirement.

An easy fix: Take a close look at your portfolio to ensure it’s allocated in a way that makes sense for your long-term plans. What you find may come as a surprise.

• The “sticky” IRA cash trap (article, issued July 2024)
• Investor risk-taking, measured at midyear 2024 (article, issued August 2024)
• More boomers prepared for retirement, but gaps persist (article, issued June 2024)
• Hybrid annuity TDFs and the search for income in retirement (article, issued June 2024)
• Investor Pulse: Confidence soars amid inflation worries (article, issued May 2024)