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Why collective investment trusts are gaining traction within DC plans

Multiple authors
2023-08-31
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The views expressed are those of the authors at the time of writing. Other teams may hold different views and make different investment decisions. The value of your investment may become worth more or less than at the time of original investment. While any third-party data used is considered reliable, its accuracy is not guaranteed. For professional, institutional, or accredited investors only.

Key points

  1. Collective investment trusts (CITs) are gaining acceptance in defined contribution (DC) plans, with interest driven by demand for institutional-quality investment strategies, product flexibility, and lower fees.
  2. Department of Labor (DOL) regulations and increased third-party reporting allow for easier comparisons between CITs, mutual funds, and other investment alternatives.
  3. Important features of Wellington Trust Company, NA’s1 CITs that are available to qualified DC plans include daily pricing, NASDAQ ticker identification, daily trading via the National Securities Clearing Corporation (NSCC), broad database availability, and the accessibility of monthly portfolio holdings, quarterly fact sheets, and annual portfolio profiles.

The investment menus of defined contribution plans have evolved in a variety of ways over time, from the use of a wider array of asset classes to the addition of target-date and other premixed investments. Another notable change in recent years is the growing use of CITs as an alternative to traditional mutual funds. As of the end of 2020, a total of US$4.5 trillion was invested in CITs, with the growth of CIT adoption and usage outpacing that of the DC plan market as a whole. In addition, databases like Morningstar have expanded their research coverage of CITs exponentially over the last 15 years suggesting increasing interest in and adoption rate of these vehicles by plan sponsors.

Interest in CITs has been primarily driven by plan-sponsor demand for institutional-quality investment strategies and product flexibility with the potential for lower fees. DOL regulations governing the disclosure of fees and other investment-related information have helped to facilitate improved comparisons between CITs and other investment alternatives offered to DC plan participants (see “More information…” box below). Better disclosure has revealed that fees for CITs may be between 10 and 30 basis points (bps) lower than for mutual funds of similar composition.

To help plan sponsors who are constructing or modifying an investment menu, this paper can serve as an educational piece highlighting the main similarities and differences between CITs and mutual funds.

Investment structure and management

Both CITs and mutual funds pool the assets of multiple investors, each of whom owns an interest in, or shares of, the CIT or fund. When actively managed, both vehicles generally employ professional money managers to research, select, and monitor the performance of the underlying securities.

Investment availability

CITs are established by banks or trust companies and are only available to qualified plans and plan-related trusts. Individual DC plan participants may invest in CITs only indirectly, when the CITs are included as options in the DC plan menu. In contrast, mutual funds are typically available both indirectly through DC plans and directly to individual investors through the sponsoring mutual fund company or a brokerage firm.

Regulatory oversight

CITs are regulated by the US Treasury’s Office of the Comptroller of the Currency (OCC) pursuant to OCC Regulation 9.18, when the sponsoring bank or trust company is federally chartered. CITs sponsored by state-chartered banks or trust companies are regulated by state authorities. Wellington Trust’s CITs are regulated by the OCC. The Department of Labor also has oversight authority over most CITs through its oversight of participating Employee Retirement Income Security Act (ERISA) plans and ERISA fiduciary activities. If a plan that is subject to ERISA includes a CIT as an investment option on its menu, the CIT trustee is generally required to comply with ERISA’s fiduciary-responsibility provisions in managing and operating the CIT. The trustee of a mutual fund would not be required to comply with these provisions.

A principal difference between mutual funds and CITs is that CITs and CIT interests are exempt from registration with the US Securities and Exchange Commission (SEC) under the Investment Company Act of 1940 and the Securities Act of 1933. As a result, CITs are not subject to the substantive regulatory provisions under those laws, which we believe ultimately results in a more cost-effective vehicle option for participants.

Reporting requirements

In recent news, there is also a potential broadening of access to CITs for additional investor types. Notably, with the House of Representatives passing SECURE 2.0 in March 2022, it opens the door for the Senate to also grant approval. That, in turn, could allow 403(b) plans to begin offering CIT vehicles to their participants. Across plan sizes, we see a major opportunity for cost savings through a transition to CITs, where appropriate.

Mutual funds are required to report performance and holdings on at least a semiannual basis, in a standardized manner, as well as to provide quarterly account statements to investors. By contrast, OCC-regulated CITs are only required to issue financial reports on an annual basis, although most report performance information to participating plans more frequently. Mutual funds are legally required to provide investors with a prospectus, an offering document that discloses information on a fund’s investment objective, portfolio managers, fees, services, restrictions, and policies, along with information related to risks, conflicts of interest, and other topics prescribed by the SEC. CITs do not issue prospectuses. But for certain CITs available through DC plans, there may be fact sheets, profiles, or other available material that provide information such as performance, turnover, expenses, investment objectives, and strategies.

Further, unlike with mutual funds, a plan sponsor or other plan fiduciary authorizing the plan’s investment in a CIT enters into a participation or investment agreement with the bank trustee of the CIT. Wellington Trust’s investment agreement with participating plans includes terms related to a CIT’s fees and expenses, permissible investments, and investment objective.

Distribution of 401(k) plan assets

Figure 1 shows 401(k) assets held in CITs versus other vehicles. From 2015 to 2020, total 401(k) plan assets grew by roughly 62%, while 401(k) assets held in CITs saw growth of 138% during the same time frame.4

Figure 1
leveraging scale to benefit participants why collective investment trusts are gaining traction within dc plans fig1

Third-party reporting

Third-party reporting on mutual funds is more widely available than on CITs, but that is gradually changing. Data aggregators such as RPAG, Fi360, and Morningstar regularly review mutual funds and make their analysis available to the public for a fee. These firms have been rapidly expanding their coverage of CITs. In fact, Morningstar’s coverage has increased to over 7,500 distinct collective investment trusts as of June 2022.5 However, this CIT information is not currently available to the public. It is accessible only to consultants and institutions, including plan sponsors and record keepers.

Valuation frequency

In general, mutual funds are required to calculate net asset values daily, and shareholders must be permitted to purchase and redeem shares daily. CITs offered to the DC market are typically priced daily to accommodate plan sponsor preference for daily transactions.

Fees and expenses

Mutual funds and CITs generally charge management fees and incur operating expenses. Fees can vary widely among individual mutual funds and CITs, but we believe recent DOL rule changes governing the disclosure of DC plan investment-option expense ratios should help facilitate comparisons for plan sponsors and participants. As noted above, thus far, better disclosure has revealed that fees for CITs may be between 10 and 30 bps lower than for mutual funds of similar composition.2 In addition, more than 70% of CIT managers are open to negotiating custom fee arrangements based on client-specific circumstances such as total client assets under management (AUM) or a consultant relationship.3 This fee flexibility is not available in mutual funds.

Conclusion

We expect that both CITs and mutual funds will be widely used by DC plans in years to come, and we believe that both merit consideration by plan sponsors. Figure 2 summarizes the key similarities and differences between mutual funds and a group of CITs maintained and operated by Wellington Management’s affiliate, Wellington Trust Company, NA.

Figure 2
leveraging-scale-to-benefit-participants-why-collective-investment-trusts-are-gaining-traction-within-dc-plans-fig21

1Wellington Trust Company, NA is a national banking association that offers daily-valued collective investment funds that are available solely to certain qualified employee retirement plans and their plan participants. Please see further disclosure on Wellington Trust Company, NA below. | 2Plan Adviser, DST Systems white paper “Understanding  CITs and Their New Opportunities,” February 2017. | 3Cerulli Associates – The Cerulli Report – US Defined Contribution Distribution 2021 |4The Coalition of Collective Investment Trusts, CIT white paper, 2021. | 5Morningstar, 2022.

Wellington Trust Company, NA offers daily-valued collective investment funds that are available solely to certain qualified employee retirement plans and their plan participants. Collective investment funds are not offered to, or available for investment by, the general public. This material is for use with qualified US employee retirement plan sponsors or their representatives, and does not constitute an offer to sell or the solicitation of an offer to purchase shares or other securities. | Wellington Trust Company, NA is a national banking association whose business is to provide investment management, trust, and other fiduciary services; it serves as trustee of the Trust and manages the strategies’ investments.

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