Collective Trust vs Mutual Fund: What’s the Difference?

My 401k plan recently added a new investment option. It’s a collective trust from BlackRock — BlackRock EAFE Equity Index Collective Trust. It invests in stocks in developed countries, tracking the MSCI EAFE index.

What Is a Collective Trust?

A collective trust is like a mutual fund but it only sells to institutional investors like 401k plans. Because a collective trust doesn’t take on retail investors, it’s exempt from some regulatory requirements. Not having to deal with retail investors also makes the costs lower.

Before collective trusts came along, some large 401k and 403b plans invested in separate accounts. In these separate accounts, a plan owns the underlying assets. If five plans want to pursue the same strategy, say matching the S&P 500, there are five separate accounts, one for each plan.

With a collective trust, these five plans put their assets together into one pool, just like how individual investors invest in a mutual fund.

Low Cost

Free from some of the regulatory requirements, a collective trust can focus on just the investing part. As a result the cost can be kept low. The expense ratio on the BlackRock EAFE Equity Index Collective Trust in my 401k plan is 0.10%. It’s not necessarily lower than the expense ratio of an institutional share class of the equivalent fund from Vanguard, but it’s still pretty low.

No Prospectus, No Ticker, No Holdings Report

Mutual funds are required to publish a prospectus and report their holdings and performance periodically to the SEC. Everyone can see them. There is a ticker symbol for every fund. You get the net asset value (NAV) every day from various websites. You get the latest information on the fund from Morningstar at least once a quarter, usually once a month.

A collective trust doesn’t have a ticker symbol or prospectus. The trust publishes a unit value but it’s only available if I log in to the 401k plan website. I can’t get the price updated automatically in Microsoft Money or Google Finance. I can’t find detailed information on the trust’s holdings. The information sheets linked from my 401k plan account still show information as of 12 months ago. I will have to somehow trust they are doing what they are supposed to do.

Is that a concern? It can be but I’m not too worried about BlackRock. BlackRock is the company behind iShares ETFs. They have a good track record with the ETF tracking the MSCI EAFE index. I think they will do just fine with the collective trust tracking the EAFE index.

No Dividend

A regular mutual fund pays dividends. It does because it’s required by law to pass through dividends from the underlying holdings to the shareholders so the IRS can tax the shareholders. Because a collective trust only sells to qualified retirement plans and those plans don’t pay taxes, a collective trust doesn’t have to distribute the dividends to the plans. The collective trust still gets the dividends from the underlying holdings. They just become a part of the trust’s NAV.

This does not affect the collective trust’s performance at all. Not having to track or pay dividends out actually lowers the collective trust’s cost.

If you also have a collective trust in your 401k or 403b plan, it’s a good alternative to higher-cost actively managed mutual funds. The lack of transparency is somewhat inconvenient, but it usually doesn’t affect the bottom line. You just have to give a little more trust to the collective trust.

More info: Collective trusts: When are they appropriate? from Vanguard

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Comments

  1. serbeer says

    And what happens if BlackRock fails/faults? There is no SEC insurance I assume.

    Altruist Advisors once wrote in their review of commodity futures fund:
    “iPath Dow Jones-UBS Commodity Index Total Return ETN (DJP). E/R: 0.75%. This is an Exchange Traded Note (ETN). An ETN is similar to an ETF (for more information on ETFs, see here) in that it attempts to track an index and is traded on an exchange. HOWEVER, it is a bond which is backed only by the full faith and credit of the issuer, which in this case is Barclay’s Bank PLC. As such, we judge that it has unacceptable credit risk, regardless of the financial soundness of the issuer (i.e., the credit risk, however small, is unacceptably high given that it is totally undiversified).”

    While it has nothing to do with Black Rock, I agree with their general approach to the issue: there is no need to take on more risk than is already build in equities by their very nature if alternative exist. Do you disagree?

  2. TFB says

    @serbeer – A collective trust is not an ETN. The underlying holdings are still in a trust, held by a separate custodian, just like mutual fund assets. It’s not an unsecured obligation of the portfolio manager.

  3. Mike says

    While in theory this makes sense .. lower costs, what’s not to like? My experience is through my 401(k) I have these.. and the truth is you get what you pay for. They couldn’t be content with a russell 1000 index with ER of .01%.. they had to add actively managed large value funds to mix in with it. Since there’s looser disclosure requirements, the shareholder communication comes out 6-9 months later after the fact and after you see the fund trail the index what you thought you owned.. buyer beware.

  4. ajk says

    Most 529 plans have investments organized in a similar fashion. You don’t own shares, you own a portion of a trust.

    “Contributions to your Account purchase Units of the Investment Portfolio(s) you select ”
    “Please note that your investment in an Investment Portfolio is not an investment in any of the Underlying Funds.”

    • TFB says

      That’s a wrapper fund, which is different from a collective trust. A wrapper fund invests in the underlying mutual fund; it’s usually more expensive than the fund. A collective trust actually goes out to buy stocks, just like a mutual fund does.

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