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 The growing shift to collective trusts could prove a weapon for
actively managed mutual funds losing out to low cost passive
investment products such as the exchange-traded funds offered by
rivals such as Vanguard Group, the biggest mutual fund company. For
investors, one drawback is less transparency about the risks and
performances of their holdings.
"CITs are more opaque to the outside world because reporting
requirements are not as stringent," said Michael Rawson, manager of
research at Morningstar Inc.
Retirement plans sponsored by Delta Air Lines Inc cut fees by 23
percent last year when they shifted an estimated $1 billion in
assets managed by Fidelity's Contrafund into a collective investment
trust (CIT).
"The lower the expense of a fund, the less money taken out of
overall earnings, which can translate into better returns for
investors," Delta said in a letter to employees. The airline
declined further comment.
The $107 billion Contrafund, a staple offering in 401(k) and other
U.S. retirement plans, still manages the money, but the Delta assets
are no longer regulated by the SEC. Instead, the primary regulator
is the state banking commissioner of Massachusetts, where the
Fidelity Management Trust Company is chartered.
As with other CITs, investors do not receive an SEC-required
prospectus, a lengthy document that spells out investment objectives
and risk. Ticker symbols and ratings from independent research firms
such as Morningstar also are not generally available, according to
analysts.
And the regulator for one CIT can differ from another, depending on
where the trust is chartered, meaning they could be subject to
different law. Invesco's is the Texas banking commission, for
example, and BlackRock's is the Office of the Comptroller of the
Currency, a bureau of the U.S. Treasury Department.
Assets in CITs are surging because they can have significantly lower
overhead costs than the average mutual fund. CITs can only be
offered to qualified retirement plans such as 401(k)s and analysts
say their less stringent reporting requirements translate into lower
operating expenses for fund companies. Meanwhile, there has been a
rash of lawsuits in which employees accuse their employers of
charging excessive fees in their 401(k) retirement plans.
Late last month, for example, the U.S. Supreme Court appeared set to
revive certain claims in a class-action lawsuit against Edison
International by employees who accused the utility of favoring
higher-cost mutual funds over-lower cost ones in its retirement
plan.
"These excessive fee cases will drive more retirement plan sponsors
to look at collective investment trusts," said Kevin Lyman,
assistant general counsel at Invesco Ltd, which manages about $61
billion in CIT assets.
In recent years, research firms have estimated that CIT assets would
top $2 trillion in 2015. But a Reuters analysis of disclosures by
trust banks, including ones operated by BlackRock Inc, State Street
Inc and Wellington Management, reveal that figure was easily
surpassed in 2014.
BlackRock and State Street's trust banks alone reported a combined
$2.22 trillion in CIT-related assets at the end of 2014, according
to banking disclosures. Fidelity's latest disclosure, the end of
March 2014, showed $43.3 billion in CIT assets, up nearly $8 billion
from the end of 2013.
Indeed, 60 percent of defined contribution plans offered collective
trusts in 2014, up from 52 percent the previous year, according to a
study by Callan Associates Inc, a consultant to institutional
investors.
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To be sure, mutual funds remain the staple investment in defined
contribution retirement plans such as 401(k)s.
"But large-cap equity managers have the most pressure to lower
fees," said John Akkerman, head of global distribution at MacKay
Shields, an investment management company and unit of New York Life
Insurance Company.
LAYER OF OVERSIGHT
Invesco's Lyman said regulation of collective trusts may get a
slightly lighter touch because retirement plan sponsors serve as
fiduciaries, offering a layer of oversight to participants.
"Like SEC regulation of a hedge fund, there's an element of a
sophisticated investor being involved, the retirement plan," Lyman
said. The U.S. Department of Labor and the Internal Revenue Service
also provide oversight, he said.
CITs have been around since the 1920s, but actively managed mutual
funds have a renewed sense of urgency in using them because each
year for the past several years they have lost tens of billions of
dollars in assets to passive index funds.
In 2014, for example, investors made net withdrawals of $98 billion
from actively managed stock funds while pumping $167 billion into
passive stock investments such as exchange-traded funds, according
to Morningstar Inc. Fidelity's Contrafund had net withdrawals of $11
billion in 2014, though about $6 billion of that amount went into
CIT accounts, according to Lipper Inc data and Contrafund
disclosures.
About a year ago, Fidelity began offering collective trusts to
clients with a $50 million minimum initial investment. The offer
included moving assets from the lowest cost shares of Contrafund,
the $44 billion Low-Priced Stock Fund and the $42 billion Growth
Company Fund into collective investment trusts, according to the
State Universities Retirement System of Illinois.
In the Delta example, Contrafund charged an expense ratio of 0.56
percent for its lowest cost K shares. After the shift to the
collective trust, Contrafund's expense ratio dropped to 0.43 percent
of assets, according to Delta's announcement to employees.
Fidelity declined to make executives available for comment, but said
in a statement that a small number of institutional clients
transferred assets from some Fidelity mutual funds into collective
trusts."
"We continue to manage those client assets just in a different
investment structure," Fidelity said in the statement.
(Reporting by Tim McLaughlin; Editing by Richard Valdmanis and John
Pickering)
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