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Retirement Perspectives

Collective investment trusts have gained substantial market share and acceptance in the retirement industry, given lower costs and greater flexibility than mutual funds.

 

Collective investment trusts (CITs) have become increasingly popular in the defined-contribution market (see Chart 1), and we expect this significant shift to continue as plan sponsors look for more efficient and cost-effective vehicles to fund their members’ retirement needs in an increasingly litigious environment over fees and conflicts.

According to Cerulli Associates, assets in CITs grew to $2.8 trillion by the end of 2016, for a year-over-year gain of about 11.6%.1 By 2017, CITs grew to nearly 20% of asset managers’ defined-contribution investment-only assets. With lower fees, CITs continue to accumulate 401(k) market share from mutual funds. (See Chart 2.) Of the 100 largest corporate defined-contribution (DC) funds in 2016, CITs were used by 54.3%—more than mutual funds, separate accounts, and exchange traded funds (ETFs) combined, according to Pensions & Investments. (See Chart 3.)

 

Chart 1. Asset Managers’ DCIO Assets, by Investment Structure, 2017


Source: Cerulli Associates.
Note: Other includes pooled trusts.

 

Chart 2. 401(k) Assets, by Investment Vehicles, 2016
($ in billions)


Source: Cerulli Associates.

 

Chart 3. CITs Have Been Especially Popular with Large DC Plans
Percentage of defined contribution plans offering CITs; CIT assets under management, 2013–15


Source: Pensions & Investments.

 

Teeing Up CITs
The level of interest we encountered on a recent seven-city road show signaled considerable momentum. As a recent Cerulli report put it, “In today’s fee-sensitive environment, CITs can sometimes offer more favorable pricing than a [retail] mutual fund, which can be passed along as savings to the plan sponsor and participants. This is a significant tailwind for increased use of this vehicle in DC plans.”

Also according to Cerulli, 49% of 401(k) plan sponsors with $100–250 million in 401(k) plan assets were considering a change of investment vehicle during the 2017 plan year.  

“Nearly 95% of plan sponsors value the cost savings, compared to mutual funds, as one of the most important attributes of CITs,” Cerulli senior analyst Christopher Mason said recently. “Similarly, roughly 90% of consultants feel that the cost savings, compared to mutual funds, is a very important attribute of CITs.”2

Even so, CITs still are not allowed in 403(b) plans, and there are some plan sponsors that remain concerned or confused about pricing, transparency, and economies of scale.

In a recent industry survey by the National Association of Plan Advisors (NAPA), for example, one respondent questioned the minimums that some asset-management companies put on CITs. With a migration toward more efficient and transparent share classes, Lord Abbett decided to have zero minimums, because it is in the best interest of our clients.3 As an investment-led, investor-focused firm, we want to deliver our investment capabilities via whatever structure our clients prefer, regardless of account size.

Another concern that came up in the NAPA survey focused on the failure of certain advisors to address the tracking error between CITs and their mutual fund counterparts. One plan sponsor commented that while CITs technically had a lower expense, they performed significantly worse than mutual-fund counterparts. The plan sponsor also suggested that other plan sponsors may give up transparency when moving to CITs, and that having a mixture of CITs and mutual funds in investment options could create confusion for participants.3

The reality is that collective investment funds have become much more efficient and transparent over the past five to 10 years. They now trade through the National Securities Clearing Corp., report performance to Morningstar, and have a very experienced profile to provide a plan for plan participants.

CITs versus Mutual Funds
CITs have been around since 1927, but only more recently have they been as efficient as mutual funds, thanks to technology and operational efficiencies that have been made in order to make it easier to manage cash flows.

Morningstar generally defines CITs as tax-exempt, pooled investment vehicles, sponsored and maintained by a bank or trust company who also serves as the trustee. CITs combine assets from eligible investors into a single investment portfolio (or fund) with a specific investment strategy.

Additional details can be obtained from the Coalition of Collective Investment Trusts (CCIT).  “By commingling, or pooling, assets, sponsors of CITs may take advantage of economies of scale to offer lower overall expenses, enhanced risk management, and more diverse and innovative investment opportunities for the participating investors than such investors could achieve by investing these assets on their own,” the CCIT said in a 2015 white paper. “Each fund is managed and operated in accordance with the applicable trust’s governing documents, which generally include a declaration of trust (or plan document) and the fund’s statement of characteristics.”

What are the main differences between CITs and mutual funds? One significant difference is that CITs have greater flexibility (in terms of pricing, ease of creating new share classes, and ability to build relationship pricing for individual clients), and there are no 12b-1 fees (which are annual marketing or distribution fees on a mutual fund). Another thing that sets CITs apart is that its trustee or designated third party acts as an ERISA fiduciary for investment decisions, unlike mutual funds, whereby investment decisions may be made by a board of directors. (See Table 1.)

While mutual funds established under the Investment Company Act of 1940 (“’40 Act”) are governed by the Securities and Exchange Commission (SEC), CITs are regulated by the federal Office of the Comptroller of the Currency (OCC). As a result, so-called ’40 Act funds tend to have higher expenses to comply with the SEC regulations. But when it comes to oversight, the OCC can often be more stringent than the SEC.

 

Table 1. What Are the Differences Between Mutual Funds and Collective Investment Trusts?


Source: Wilmington Trust.
Note: The Office of the Comptroller of the Currency (OCC) is a federal agency that is responsible for monitoring all national banks, and federal branches and agencies of foreign banks.

 

What Else You Should Know about CITs
In order to verify the tax-exempt status and protect the fund, plan sponsors or fiduciaries are required to sign a Participation Agreement in order to represent this tax-exempt qualification. This often is a three- to four-page document that requires a single signature. They are easy to understand and assist with tracking and reporting as well.

With CITs traded through the NSCC, clients now can get daily valuation.  Morningstar provides incisive fact sheets.

Which asset class should see more growth in CIT assets? While stable-value funds have become increasingly prevalent, we think that target-date vehicles (asset-allocation funds targeted to a certain anticipated retirement date) should gain significant traction.

The Bottom Line
CITs are more affordable for smaller defined-contribution plans, and they are more efficient platforms for unitized, multi-manager solutions. We look for CITs to continue expanding their market share—not just as a lower-fee alternative to other investment vehicles but also as a flexible path to custom solutions.

—Steve Govoni, Senior Financial Writer, contributed to this report.

 

1 "U.S. Retirement Market: The Rise of Fiduciary Services,” Cerulli Associates, December, 2017.
John Manganaro, “CIT’s Costs Attract Institutional Investors,”Plan Sponsor, December 11, 2017.
3 Nevin E. Adams, J.D., “Reader Poll: (Not Yet) a Tipping Point for CITs?” napa.net, February 16, 2018.

The information is being provided for general educational purposes only and is not intended to provide legal or tax advice. You should consult your own legal or tax advisor for guidance on regulatory compliance matters. Any examples provided are for informational purposes only and are not intended to be reflective of actual results and are not indicative of any particular client situation.

The information provided is not directed at any investor or category of investors and is provided solely as general information about Lord Abbett's products and services and to otherwise provide general investment education. None of the information provided should be regarded as a suggestion to engage in or refrain from any investment-related course of action as neither Lord Abbett nor its affiliates are undertaking to provide impartial investment advice, act as an impartial adviser, or give advice in a fiduciary capacity. If you are an individual retirement investor, contact your financial advisor or other fiduciary about whether any given investment idea, strategy, product or service may be appropriate for your circumstances.

Defined benefit plan. A defined benefit retirement plan provides employees with guaranteed retirement benefits that are based on a benefit formula. A participant’s retirement age, length of service, and pre-retirement earnings may affect the benefit received. In the private sector, defined benefit plans are typically funded exclusively by employer contributions.

Defined contribution plan. A defined contribution retirement plan specifies the level of employer and employee contributions (retirement savings) and places those contributions into individual employee accounts. Retirement benefits are based on the level of contributions, plus earnings, that have accumulated in the account at the time of retirement.

Employer matching contribution. The employer matches a specified percentage of employee contributions. The matching percentage can vary by length of service, amount of employee contribution, or other factors.

401(k) is a qualified plan established by employers to which eligible employees may make salary deferral (salary reduction) contributions on an aftertax and/or pretax basis. Employers offering a 401(k) plan may make matching or nonelective contributions to the plan on behalf of eligible employees and may also add a profit-sharing feature to the plan. Earnings accrue on a tax-deferred basis.

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