Whitepaper Suggests Collective Funds Next Trend in Plan Investments

March 28, 2008 (PLANSPONSOR.com) - A whitepaper presented by AST Capital Trust with contributions from Hewitt Associates claims the grip is easing on mutual funds' reign as king of 401(k) plan investments.

The report, Collective Funds: Description, Oversight, Features & Trends, points out that operational enhancements and lower expenses of collective funds makes them the new contender for the throne. One of the most significant enhancements to collective fund operations has been the develop­ment of funds that are valued and liquid daily, the paper says.

Operational enhancements also have made portfolio information more accessible to investors – the availability of regular provider statements, voice response ser­vices, provider and plan Web sites, and traditional fund evaluation services such as Morningstar and Lipper make collective funds easier for sponsors to offer than in the past. Equally important to the growth in collective fund usage , the paper says was an expansion in the capabilities of National Securities Clearing Corporation’s (NSCC) Fund/SERV platform in 2000 to include collective fund transactions – allowing plan partici­pants, sponsors, and providers to complete collec­tive fund transactions with the same ease as mutual funds.

The paper pointed out that the relatively lower expenses commonly associated with collec­tive funds also makes them more attractive investment choices. Collective funds often have lower operational expenses compared to mutual funds, and the start-up costs associated with collective funds typically are lower in relation to other structures.

The paper noted that even a relatively small reduction in investment fees can meaningfully reduce the overall expenses of a plan and can cause the income replacement ratios of 401(k) assets to be signifi­cantly higher for participants.

In addition, according to the report, plan sponsors find that:

  • Collective funds typically do not have trading restrictions that are as onerous or difficult to monitor as mutual funds,
  • Collective funds often do not have redemption fees, and
  • Rule 22c-2 doesn’t apply to collective funds.

Collective Funds: Description, Oversight, Features & Trends noted that along with the benefits often found in collective funds, there are some limitations, including:

  • Collective funds are not always less expensive than other vehicles,
  • Performance is not listed in newspapers and advertising is more limited than with mutual funds,
  • Collective funds can accept qualified plan as­sets only, preventing investment by several investor types and also preventing collective funds to retain IRA rollover assets, and
  • At present the universe of products that are offered in a collective fund format is much smaller than the available universe of mutual funds.

However, the report noted there are many signs of the widespread and growing use of collective funds in the financial services industry, particularly as a pop­ular investment choice in DC plans. Therefore DTCC expects that this will equate to a significant increase in the number of collective funds it processes over the next few years.

The rapidly increasing use of asset allocation funds is likely to result in a further increase in the use of collective funds, according to the authors. The paper said collective funds are an excellent vehicle to house asset allocation funds for the same reasons they are dethroning mutual funds as the king of plan investment options.