Collective Investment Trusts Versus Mutual Funds

Collective investment trust (CIT) products can cost 10 to 30 basis points less than mutual funds with similar features, according to a DST white paper, “Collective Investment Trusts—A Perfect Storm.”

And even a half-a-point or two-point cost reduction can be reason enough for a plan sponsor to switch from a mutual fund to a CIT, according to DST. In fact, the firm projects that CIT assets in retirement plans could rise from $1.9 trillion at the end of 2015 to $3.1 trillion by the end of 2018—a 63% increase.

Most experts that PLANADVISER spoke with agree that because of their lower costs, CITs are slowly but steadily making inroads into retirement plans. However, Joel Lieb, director of defined contribution advisory at SEI Institutional in Oaks, Pennsylvania, says that with the exception of plans with $1 billion or more in assets, the plans that SEI advises as a 3(38) fiduciary all have mutual funds as their core menu. Unlike DST, Lieb maintains that the cost advantages of CITs over mutual funds are only around five basis points, down from around 10 basis points a decade ago. This is due to product improvements and changes in the way mutual fund companies price their offerings.

Likewise, SunTrust Institutional Investments of Atlanta has not witnessed considerable movement by plan sponsors to embrace CITs, says Philip Pounds, director of client experience at the firm. Instead, SunTrust’s clients are primarily gravitating to the retirement and institutional share classes that mutual funds are increasingly offering, he says. In fact, Pounds says, “four to five years ago CITs looked like they might take off,” but the mutual fund industry cleverly and ingeniously countered by offering zero-revenue share and institutional share classes.

On the other hand, “there has been a strong trend among the large plans that Aon Hewitt serves to welcome CITs,” says Win Evens, director of human resource outsourcing investment solutions, based in Chicago. “With the power of compounding, eliminating fees from 100 basis points to 75 basis points can have a profound impact over a person’s career,” he says.

In addition, whereas the early CITs did not offer daily valuation capabilities, modern CITs do, and “they are well supported by the recordkeeping industry these days,” Evens says. As DST notes, in 2000, the National Securities Clearing Corporation added CITs to its mutual fund trading platform, making it possible for the vast majority of CITs to trade and price daily.

NEXT: Other benefits of CITs

CITs also have more investment latitude than mutual funds, according to DST. Unlike mutual funds registered with the Securities and Exchange Commission, CITs are regulated by the Office of the Comptroller of the Currency and have much more leeway to invest in illiquid alternatives like Treasury Inflation Protected Securities (TIPS), real estate, commodities, high-yield bonds and hedge funds, according to DST. Mutual funds can invest no more than 15% of their assets in illiquid securities, according to the firm.

“In addition to customization at the investment level, portfolios can be rebalanced more frequently and in a more customized manner than in a more traditional mutual-fund-based DC [defined contribution] plan,” DST says.

Tina Wilson, senior vice president and head of the investment innovation unit at MassMutual in Enfield, Connecticut, says that CITs can invest in stable value, whereas mutual funds cannot. In fact, MassMutual is about to launch a target-date series that includes a stable value component because the investment firm believes that offering “lower volatility and a guaranteed minimum return can be very attractive to participants, particularly in a rising interest rate environment,” Wilson says.

Furthermore, “for large plans, CITs provide a lot more flexibility to offer white label investments,” Wilson says. “As opposed to a mutual fund, the CIT structure allows us to build something unique to a plan or a series of plans.”

And because CITs are used exclusively by retirement plans, “they don’t have the same redemption process that mutual funds do,” adds Chad Carmichael, principal consultant with North Highland in Charlotte, North Carolina. “Subscriptions and redemptions don’t occur as they do with the operational overhead of mutual funds, and that in turn lowers the cost and frees up the CITs to invest assets fully. Mutual funds, on the other hand, have to keep sizeable cash positions to meet redemptions, which can lead to style drift.”

Beyond this, while lowering investment and retirement provider fees has become top of mind for sponsors and advisers, the rash of lawsuits and the pending fiduciary rule are making them an even greater concern, says Keith Clark, a partner with DWC ERISA Consultants in St. Paul, Minnesota. “Five to 10 years ago, plan sponsors were only scrutinizing plan provider fees—not the investment fees, since participants were paying them,” Clark says. “Today, due to the fee disclosure requirement [of 2012] and the fiduciary rule, sponsors are looking carefully at all expenses, and I think CITs will make a comeback.”

However, Paula Smith, senior vice president of business development and strategy at Voya Investment Management in New York, cautions sponsors and advisers that cheapest is not always the most prudent choice for a retirement plan. “The mandate isn’t necessarily the cheapest or a passive investment choice,” Smith says. “Actively managed funds, for example, have the potential to offer higher alpha. Plan sponsors have a duty to monitor investment vehicles and fees for the best value, and they need to document their procedures. It’s an ongoing task.”

That said, Voya’s clients are increasingly offering CITs as core menu options as well as target-date funds. “While they are concentrated among large plans,” Smith says, “we expect they will make their way to smaller plans over time.”