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.
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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?
Harry Sit 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.
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.
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.”
Harry Sit 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.
John Navarre says
Good summary. Our 401k has all collective trusts and I never knew what they were.
Rob Collins says
Owned a mutual fund in my company 401k plan. Payed out about $400.00 a quarter in dividends and about $3000 dividend at the end of the year. based on my balance I payed about $450 a year in fees. This mutual fund was converted to a CIT. The NAV price is about the same.. no dividend payout and I save $150 a year in fees based on their numbers that are not very transparent.. How is this a good deal .. I suspect the company saves big. What happens to the dividends? The NAV price certainly does not reflect a proportional increase .Would anyone trust a bank with this investment over a mutual fund manager…really?
Harry Sit says
When was it converted? What were the respective NAVs at that time? What are the NAVs now?
Jim Young says
Very good post. Well explained. Thank you!
Jw says
What happens to the dividends? Seems like the performance will be the same but the price will be different. Are the dividends re invested? Or used to pay fees to the fund managers? Seems like a backdoor way to collect fees and still say it’s a low fee fund. In the end the it’s a smaller pot to earn money. Sure the performance is the same but the dollar amount in the end is different.
Harry Sit says
The performance is after all fees. It’s not possible to have the same performance with a different dollar amount in the end.
Richard says
My 401k has six funds that have converted to CIT’s. I understand that they have less fees and are basically the same as normal mutual funds.
Three of the funds are CIT’s with Vanguard. My concern is(in the case with Vanguard) are the funds still run and managed by Vanguard or is there another party involved? Such as my companies 401k managers. My concern is does my company make out better with these funds that do not have to report statistics like regular mutual funds?
Harry Sit says
If it’s a CIT with Vanguard it’s run and managed by Vanguard. You can see a list of CITs offered by Vanguard here:
https://institutional.vanguard.com/VGApp/iip/institutional/csa/investments/aggregateviews/all?structure=trusts
Your company moved you to these to save you some money.
MikeW says
The question about no dividends is significant, I don’t think the real point was addressed. When dividends are paid out and reinvested the share holder gets more shares and the NAV is the similar due to the reinvestment. on DEC31 I see a drop in NAV in my 401K, but Jan1 it is back to where it was. and I have more shares. Without the dividends paid out the investor looses.
This would hold true for capital gains distributions too, do “wrapper funds” and “Collective trusts” pay out capital gains?
investing in mutual funds is not solely about rise of it’s NAV, it has a lot to do with accumulation of shares as well.
Mike says
Totally agree Mike! Our 401K just converted over a bunch of our funds in August. Did not think too much about it as the change was a high level non transparent. I started investigating when I did my year end evaluation on dividends received and to my surprise nothing. Should have received $1,700 on one of my funds. So, I’m saving $30 per year on expense ratio on this fund and not receiving my $ 1,700 dividend. This math does not make sense
Harry Sit says
The dividend is rolled into the price. You aren’t any worse off. Distributing dividends is purely for the owners to pay tax on the dividends. It’s irrelevant in a collective trust owned solely by retirement plans. Because the retirement plans don’t pay tax, it’s not necessary for the trust to distribute dividends.
Mike says
Thanks for the feedback Harry, Understand that the dividend is rolled back in to the trust. Where can I find the information on when these dividends are rolled in and what the impact to the NAV was/is at that time as there is no way to track these. I can say that that my 401K history it appears that I paid $66.92/share and the latest price is $74 but I’m assuming there is some performance associated with the fund.
I’m not good with the lack of transparency.
Harry Sit says
You need a level of trust in a regular fund as well. Suppose a fund holds 100 stocks. The 100 stocks don’t pay dividends at the same time. When one stock pays a dividend, the fund receives it and rolls it into the price. When another stock pays a dividend, the fund receives it and rolls it into the price again. You don’t know how much dividend the fund received from each stock or when. You don’t see how the NAV is impacted by the dividend from each stock. If you sell the fund before the fund pays a dividend at the end of the quarter or the end of the year, you’re trusting the price you get reflects the dividends received by the fund but not paid out yet.
In a Collective Trust, you’re only extending this exercise from one quarter or one year to forever. It’s the same concept.
Chris says
I prefer the transparency!
John A says
This smells so bad. The reason for all the rules, regulations and financial reporting was the fleecing that was going on prior to these. Fees not disclosed, etc, the list is extremely long and NOT in favor of the investor.
NO THANKS… I’m changing all of mine to base money market investments funds then moving that to the self directed part of my 401k. I’ve done 18-20% on my side picking normal long term growth stocks (Utilities, Food, Energy, etc), the companies slim 401k fund pickings has barely broken 15% on a good year.
What happens when they tank? are the FDIC Insured??
Derek D says
My company has converted many of our options to these or target date funds. I love them, so much so I cherish the thought of dumping them as soon as I get the chance upon retirement. I am convinced the only real tangible benefit is to my employer. Thank goodness they offered a brokerage-link option allowing us to move up to 50% of our balance into the mutual funds of our choice (brokerage link acct). After several years the brokerage link account has steadily outpaced the best of the crappy options they offer. People, wake up and do some research on your investments. Best of luck to everyone!