In recent years, more 401(k) plans have replaced the mutual
funds in their investment lineups with collective investment trusts. These
investments look and act a lot like mutual funds, but generally have lower fees
and disclose less about their inner workings to 401(k) participants. Also known
as collective trust funds, such investments currently account for $2.4
trillion, or 16%, of the $15 trillion in 401(k)-style and pension plans, up
from $1.3 trillion (and 12.7% of the total) in 2009, according to the
Investment Company Institute and Cerulli Associates, a research firm that
specializes in the asset-management industry. The trusts are accounts available
only to retirement plans. They are sponsored by banks and trust companies and
are primarily overseen by banking regulators, rather than subject to
mutual-fund rules enforced by the Securities and Exchange Commission.
By and large, experts say, the trend has been positive for
401(k) investors. For 401(k)s, “collective trusts are often the lowest-cost
option on the market,” says Nathan Voris, director of sponsor and workplace
investments at Morningstar Inc.
Many collective trusts track indexes, like index mutual
funds. Over the past two years, Fidelity Investments joined a growing number of
companies introducing collective-trust versions of actively managed mutual
funds, when it made the move with eight funds, including Fidelity Contrafund
and Fidelity Low-Priced Stock Fund. The fees on the trusts can “be as much as
0.2 or 0.3 percentage points” cheaper than the shares of the mutual funds, says
Chuck Black, Fidelity’s senior vice president of investment services.
Savings of that magnitude aren’t unusual. According to
investment consulting firm Callan Associates Inc., participants in 401(k) plans
with $1 billion in assets pay an average of 1.01% in fees for an investment
lineup of retail mutual funds. Average participant costs decline—to 0.85%—when
these plans use institutional share classes of the same mutual funds, an option
available to most 401(k) plans, says Lori Lucas, defined-contribution
practice leader. But with collective trusts, average costs fall to
0.54%—“almost half the retail price,” she adds.
Collective trusts’ cost advantages stem mainly from the fact
that they are exempt from the Investment Company Act of 1940, which governs
mutual funds. Funds are required to deliver prospectuses and periodic reports
to investors, as well as to make certain filings to the SEC. Without those
rules, trusts save on legal and distribution costs, attorneys say.
The trusts’ low expenses are attractive to employers seeking
to reduce 401(k) participants’ costs amid a wave of litigation over high 401(k)
fees and the 2012 introduction of federal regulations that mandate 401(k) fee
disclosure to participants.
Collective trusts—which have been around since the 1920s—are
most commonly used by the biggest 401(k) plans. But they have become accessible
even to midsize 401(k) plans with $100 million in assets or more, says Drew
Billingsley, vice president at American Century Investments. The Kansas City
investment company began offering collective trusts to 401(k)-style plans in
2007 and this summer reduced the minimum required investment on its target-date
collective trusts from $50 million to $15 million.
Still, the trusts’ lower fees come with trade-offs.
Collective trusts don’t have ticker symbols, and 401(k) participants can’t
track their performance or compare them with other investments using public
websites including Morningstar.com, Yahoo Finance, and newspapers such as The
Wall Street Journal, which publish mutual-fund performance data.
Moreover, while mutual-fund investors can simply download
fund prospectuses and other standardized materials from fund-company websites,
401(k) participants in collective trusts may have to request similarly detailed
documents from their 401(k) plan or the company running the trust. Still, as
collective trusts have caught on with 401(k) plans in recent years, many have
increased voluntary disclosures to 401(k) participants. While collective trusts
are not required to provide daily pricing, that has become a standard feature.
On websites for 401(k) plan participants, the information
about trusts may look a lot like that on funds. That is partly a function of
trusts increasingly being provided by banking units of big asset managers and
401(k) record keepers.
Many plan administrators publish fact sheets that disclose
information including a collective trust’s performance and top holdings.
Invesco Ltd.’s trust company, which sponsors 45 collective trusts with
approximately $60 billion in assets, updates holdings on a monthly basis, says
senior vice president Betsy Warrick. For its collective trusts, Fidelity
publishes a document that resembles a slimmed-down prospectus, says Mr. Black.
Under the federal rules for 401(k) fee disclosure,
meanwhile, plans must disclose in annual statements distributed to participants
the cost to workers of investing in the plans and the performance of the
investment options, including any collective trusts.
Collective trusts must also issue certain disclosure
documents to employers. Examples include an audited annual financial statement
detailing the collective trust’s fiscal year-end holdings or a document—often
called an offering memorandum or an offering circular—that broadly resembles a
mutual-fund prospectus, according to John Schadl, principal and head of
Vanguard Group’s Erisa and Fiduciary Services.
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