Collective investment trusts, also known as collective trust funds, have been gaining traction over the past decade, particularly as part of target-date funds included in 401(k) plans.
Collective trusts are very similar to mutual funds in that they use the same strategy but they aren’t saddled with some of the same expensive marketing requirements because they aren’t overseen by the Securities and Exchange Commission. Collective trusts are only offered to ERISA-qualified 401(k) plans, according to Jake Gilliam, senior multi-asset class portfolio strategist for Charles Schwab Investment Management.
Charles Schwab has been offering target-date funds in a collective trust format since the early 2000s.
“We were at the forefront of the movement,” Gilliam says. “Then it continued to grow, not just ours, but the broad industry.”
The Pension Protection Act, which passed in 2006, paved the way for growth as well because it made it possible for target-date funds to be used as qualified default investment alternatives in 401(k) plans.
More plan sponsors have added them because they are more aware of their fiduciary duties and they are looking for lower cost options for their plans, he adds.
The other thing that helped was the Department of Labor’s tip sheet on how to pick a target-date fund. That encouraged plan sponsors to look beyond their current recordkeeper’s proprietary TDF for open architecture or custom solutions that better fit the needs of their plan, says Mike Peterson, a spokesperson for Charles Schwab.
Charles Schwab’s open architecture TDF is a mix of stocks and bonds that shift over time to less risky asset classes as an investor ages.
“Within that asset class and sub-asset class framework, our team will also select third-party managers. The best in their asset class at what they do,” Peterson says. “That is different than proprietary target-date funds that use only their own firm’s funds for underlying asset classes.”
The other benefit to using a collective trust is that “we are a fiduciary to our own collective trust fund,” Gilliam says. “A mutual fund provider doesn’t have that same fiduciary obligation. We are very much aligned with the buyers of our trust funds, the employers.”
Collective trusts are popping up everywhere, says Shelby George, senior vice president of adviser services at Manning & Napier, Inc.
“Collectives, just because of their regulatory structure, can create operational efficiencies and have really competitive fees. That has always been the real attraction with collectives,” she says.
More recently, there have been 401(k) fee litigation lawsuits that highlighted the need for companies to look for lower fee options.
Collective trusts don’t have to follow SEC disclosure requirements, which is why these funds are typically cheaper than mutual funds, even though the two types of vehicles are the same in every other way.
Mutual funds operate under the Investment Company Act of 1940. CITs are not regulated by the ’40 Act but by the Office of the Comptroller of Currency, which is under the U.S. Department of the Treasury.
“We operate our collectives in a way that is identical to our mutual funds, even though the regulatory framework is different. We have the same holdings and we are providing plan sponsors and plan participants disclosures similar to what we provide for our mutual funds, though we are not specifically required to do so by the SEC,” George says. “In our opinion it is in the sponsor’s and plan participant’s best interest. Certainly plan participants benefit from lower fees that we can offer through collectives.”
Financial advisers are showing more interest in collectives as industry awareness grows. People ask what the differences are between mutual funds and collectives and whether there are any downsides to using them, George says.
Schwab’s CIT Target Date Funds saw 14.1% organic growth in 2015 and received significant DC mandates in the large-plan space.
“The funds have done very well. They have a long track record and plan sponsors are doing what they are supposed to do to re-evaluate their plan and get access to the best strategies at the lowest costs,” says Gilliam.
He adds that the review process on target-date funds is much more sophisticated than it was in the past.
“The conversation is moving beyond the ‘to’ and ‘through’ [glide path] discussion. We are advocating that they look much deeper than that. We are a ‘through’ fund, so even at retirement we are more conservative than several ‘to’ funds,” he says.
“A key part of our glide path philosophy is looking at plan participants and serving the needs of plan participants as they age. That involves work and understanding risk tolerance. Our glide path directly takes into account plan participants’ fear of downside loss, particularly when they are closest to retirement,” Gilliam says. “When the market falls, ours will fall less than our peers. We don’t want plan participants, as they near retirement, to be as exposed to dramatic downside events.”
Collective trust funds won’t have the same volatility and flows as retail mutual funds because more of the assets are fully invested so there is less need of a cash reserve to handle redemptions, he adds. They are generally lower cost, daily valued and daily traded so they are less exposed to volatile flows.
