Move Over Mutual Funds

A white paper 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 make 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, such as the availability of regular provider statements, voice response services, provider and plan Web sites, also have made portfolio information more accessible to investors. Further, the movement of traditional fund evaluation services, such as Morningstar and Lipper, to include information on collective trusts, makes it easier for sponsors to offer such funds.

Equally important to the growth in collective fund usage, the paper says, was the expansion in the capabilities of the National Securities Clearing Corporation (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 make them more attractive investment choices. Collective funds often have lower operational expenses than mutual funds, and the start-up costs associated with collective funds typically are lower in relation to other structures.

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 does not apply to collective funds.

Collective Cons

However, the report also notes that, along with the benefits often found in collective funds, there are some limitations, including that: 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 from retaining IRA rollover assets; and, at present, the universe of products offered in a collective fund format is much smaller than the available universe of mutual funds.

The report also notes there are many signs of the widespread and growing use of collective funds in the financial services industry, particularly as an investment choice in defined contribution plans. The Depository Trust Clearing Corporation expects 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 an increase in the use of collective­ funds, according to the authors, because 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.