Recently, the headlines in the financial section of the newspaper have been dominated by stories about the stock market declining. Some have termed this a “correction” believing that the value of the stock market was inflated to begin with. Regardless of whether this is simply a market correction or the beginnings of another recession, when the stock market loses value, real people lose money they are saving for their retirement. Today, we are going to focus a little more closely on how 401(k)s expose retirement savers to the ups and downs of the financial markets.

On this blog we’ve frequently discussed the impact the Great Recession had on public pension funds, other institutional investors, and individual investors. The Great Recession was a big, catastrophic event that impacted millions of people, but events of that magnitude happen rarely. The minor recession of the early 2000s that followed the bursting of the dot-com bubble was smaller than the 2008 financial crisis, although it certainly had its impact. What impacts more people than these rare, large-scale events are the more frequent fluctuations in the stock market.

In many ways, retirement is all about timing. Knowing when to retire involves one’s health, and whether one is physically able to continue working. It’s also about knowing how much longer one has to live. Of course, no one can ever really know that, but in terms of retirement savings, it matters if you live for 15 years or 30 years after you retire. Additionally, it’s also about retiring when the financial markets are strong. For someone who retired in 1999 at the peak of the dot-com bubble, they could have retired with significantly more savings than someone who retired in 2008, even if they had made all of the same choices leading up to retirement.

Again, it’s hard to know exactly what the financial markets will do. In investing there is a saying that you should “buy low and sell high.” That is just as true when it comes to investing for retirement. In an ideal scenario, one should invest heavily in one’s 401(k) when the financial markets are down and stock prices are cheap and then sell one’s assets and retire when the stock market value is high. Unfortunately, people have a tendency to do the opposite. Many people will start to sell their stocks when the markets crash, which is the exact opposite of what they should do. If they can afford to ride it out, the best thing to do is leave one’s assets in the market during a downturn and wait for the inevitable recovery.

If this all sounds very dicey and unpredictable, it is. This also exposes one of the inherent flaws in 401(k)s. The people who invented 401(k)s intended them to be a supplement to retirement savings. Workers would have Social Security and a defined benefit pension –two stable and reliable sources of retirement income– and then they could dabble in the markets and perhaps earn some extra retirement income through their 401(k). Unfortunately, when private companies started abandoning pensions beginning in the 1980s, workers lost a major source of secure retirement savings. Now that more workers rely heavily on 401(k)s to accumulate retirement savings, they are exposed to all of the market and timing risk discussed above. This means that a worker’s retirement is heavily dependent on their ability to time retirement correctly.

Defined benefit pensions allow workers to largely avoid timing risks. Pension funds can “ride out” market downturns because they have time to recover their losses while still paying out benefits. On average, pension funds lost about a quarter of their assets during the 2008 financial crisis. However, they have largely recovered what they lost during that time. Pension plans also allow workers to avoid the possibility of outliving their retirement benefits. Pension benefits are guaranteed for life, so whether a worker lives for 15 or 30 years after retirement, they will continue to receive their pension benefit each month. This is something no 401(k) plan can offer.

Many financial experts say the American economy is overdue for another recession. If the United States does experience another recession in the next year or two, many working people will see their retirement savings negatively impacted. Unfortunately, with all the risk workers carry in the 401(k) system, they have little recourse to avoid those negative impacts other than hopefully being far enough away from retirement to have time to recover their losses.