The Appeal of CITs
Not your father's investment strategy
Reported by Rebecca Moore
From the 1980s into the early 1990s, CITs, which are pooled funds run by banks, were a common investment vehicle in defined contribution (DC) plans. Shelby George, senior vice president of adviser services at Manning & Napier in Rochester, New York, explains that when 401(k) plans moved to daily valuation in the mid-1990s, CITs, which then were mainly valued quarterly, were left behind. But now these funds are constructed more like mutual funds, and daily valuation is possible.
Jeff Masom, co-head of sales at Legg Mason in Baltimore, agrees, noting that when many mutual fund firms established institutional share classes, with lower overall expense ratios, these became more competitive than CITs. Also, many CITs lacked a long-term track record.
But, George says, the biggest innovation in the funds is that reporting—e.g., disclosures about what a CIT invests in, pricing and historical performance data—is available to investors now, whereas it was not before. In addition, the funds offer more flexibility in pricing and a potential for lower costs.
CIT use is definitely growing. For example, Jeff Kletti, head of investments at Wells Fargo Institutional Retirement and Trust in Minneapolis, says his firm saw a 37% increase in the number of CITs offered in the retirement plans it recordkeeps, plus a 57% increase in CIT assets, between the end of 2012 and of 2015. “Without question, we’ve seen more growth in the small to midsize plan market,” he says.
Pricing Flexibility and Lower Costs
CITs are regulated differently than are ’40 Act funds—those under the Investment Company Act Of 1940, George says. “Some FINRA [Financial Industry Regulatory Authority] and SEC [Securities and Exchange Commission] requirements do not apply to CITs, so, from an operational standpoint, managers have operational efficiencies that may lower costs because [the funds] don’t have the same technology and reporting requirements as ’40 Act funds [do].” CITs often allow for more flexible pricing, as they may be customized for a particular plan, she adds.
Robert Barnett, administrative vice president, head of retirement distribution at Wilmington Trust in Boston, notes that CITs can create share classes based on assets.The funds also can produce as many share classes as the asset manager wants, with various management fees for each class, Masom says.
According to Barnett, most asset managers start mutual funds because they are accessible to a variety of users—mutual funds can take an individual’s money, individual retirement account (IRA) money or retirement plan investments—but that availability creates share classes that must be set up with the SEC, making the funds more expensive. CITs are limited to taking retirement plan money only, which frees them from making the filings with the SEC that mutual funds must make and the associated legal costs; because they are unavailable to retail investors, CITs have no advertising or marketing spends, he adds.
Masom notes that the management fee—typically a significant portion of the total fee charged by the trustee to the participating plan—is completely dependent on the asset manager and CIT trustee; generally speaking, though, pricing tends to go downstream as plan size grows, he says.
“It is best practice to consider CITs for fee reasonableness,” George says. Still, fees will differ from manager to manager and portfolio to portfolio; they are not substantially lower across the board.
An ancillary benefit of CITs is that, because the manager and the bank trustee may have reduced administrative costs, the funds may be easier to set up and customize, says Todd Barmash, head of U.S. product development and strategy for Legg Mason in Stamford, Connecticut. For example, plans may access a customized target-date glide path less expensively in a CIT format than they could with traditional mutual funds.
For other expenses, Barmash says, it may be somewhat of a wash between institutional shares of mutual funds and CIT standard expenses. “CITs might not have the mutual fund board oversight expense, but that typically is offset in part by having bank trustee oversight costs,” he says.Banking Regulation
Because CITs escape regulation by FINRA and the SEC, some retirement plan advisers and sponsors may worry that the trusts are insufficiently regulated. But, Barmash points out, because CITs are bank products, they are regulated by the Office of the Comptroller of the Currency (OCC) or state banking regulators. “Most of the regulations that apply to banks apply to these products,” he says.
As for reporting, a mutual fund will have a prospectus, whereas a CIT is a trust document, Barnett says.
Performance tracking has been an issue with CITs, but, George observes, their reporting has made considerable progress. Each individual manager now has access to recordkeeping reporting similar to mutual funds. Yet, he says, some areas still need improvement, for example centralized reporting from third-party organizations such as Morningstar. The industry is trying to gain more timely access to CIT information, but that timing still often lags mutual funds, she says.
CITs may not have the historical track record mutual funds have, so participants may be unable to access historical performance, Masom says.
However, says Barmash, CIT performance is now readily available and priced daily. Most plan sponsors and advisers may access performance on the dedicated recordkeeper website, and banks have much the same reporting.
Third-party database information is slim for CITs, Barmash adds. Yet, he suspects plan sponsors and advisers look more at the performance of the trusts’ underlying holdings.
Advisers can get information from databases or from the CIT provider directly, Barnett says. Wilmington Trust’s funds are in the Morningstar database. “We have fact sheets just like mutual funds do and give them to Morningstar and Lipper. In addition, we have a website where our fact sheets are all available,” he says.
In a Plan’s Best Interest
“One thing that’s been really important to us is the opportunity to provide advisers with resources to help them talk to plan sponsors about CITs, to raise awareness that CITs are good alternatives and to debunk some of the myths,” George says. “Providers can continue to make headway there.”
First and foremost, she says, fiduciaries need to consider
what is in the best interest of plan participants. “They should not just
consider CITs because they have advantages but because they’re an option.
Fiduciaries have a duty to weigh options,” she says.
Two additional catalysts have driven the growth in CIT use,
according to Barmash. First, technology is now available that lets participants
regularly access reporting. “Because CITs don’t have a ticker, participants can’t
open the Wall Street Journal and see daily pricing, but, with the Internet,
they can find information about their CIT investments on any given day,” he
says. Second are the 408(b)(2) regulations, which require fee transparency;
these have increasingly shined light on fees and expenses incurred by plans,
and are accelerating their downward movement.
“It is incumbent on advisers to figure out if there is a
cost advantage and talk with plan sponsors about whether CITs are a fit with
the plan,” Barnett concludes. —Rebecca Moore
KEY TAKEAWAYS
- Advisers can find lower costs among CITs vs. mutual funds;
- CITs can be readily customized; and
- Performance data on CITs is now available.