Using CITs in retirement plans
Back in November of 2016, we took a look at Collective Investment Trusts (CITs) as a part of a retirement plan. You can read our original CIT Article by clicking this link. As a reminder, CITs are collective investments – just like mutual funds, but they are only allowed in certain tax-exempt retirement plans.
In our previous article, we recognized there are a handful of reasons to recommend CITs over traditional mutual funds, but there’s really one principal advantage: cost. CITs tend to be less expensive than their mutual fund counterparts. Indeed, you can often find a mutual fund and CIT following the same strategy; they are functionally identical, but CITs are often less expensive.
On the other hand, CITs have a few disadvantages over mutual funds, including:
- Lesser regulatory requirements
- Selling practices in the past that have not adhered to fiduciary principles
- Greater due diligence requirements from plan sponsors & consultants
- Limited data and transparency for employees & consultants
- Limited portability
To counteract these disadvantages, the retirement investment industry mounted a defense of CITs. The industry is eager for investments to flow into CITs, as they represented a profitable business line, with the added advantage of client retention: client assets tend to stay in CITs longer than in corresponding mutual funds. Thus, the industry worked to mitigate the disadvantages of CITs to make them more attractive to retirement plan sponsors and consultants. For instance, consider the disadvantages regarding data transparency. For years, performance data on CITs was difficult to come by and infrequently updated. CIT performance data was often omitted from investment screening tools (necessary to demonstrate compliance to fiduciary standards) and investment databases (necessary to generate performance reports for plan sponsors). In our 2016 article, we noted “[investment screening] tools and databases have also expanded their services to include CITs in investment searches, but data availability is still a work in progress.” Four years later, has the situation improved enough that consultants and retirement plan sponsors have been compelled to switch to CITs for their cost savings? Or have the problems endemic to CITs remained stagnant? CIT creators have continued to advertise and promote these solutions, and our consultants began to wonder if the landscape had changed. Have CITs significantly gained in popularity and utility? In this article, we will attempt to answer that question.
Positive changes in the CIT market
Some of the major disadvantages in CITs have not changed. They are still subject to fewer regulatory requirements and their past legacy, by definition, cannot change. On the plus side, data availability on vetted, nationally used databases has materially improved. First, the presentation of data has become more universal, which aids in performance reporting and due diligence requirements. Anecdotally, here at Westminster Consulting, our standard practice for performance reporting on CITs used to be copying lines by hand (or, more accurately, through Microsoft Excel) when generating performance reports for CITs. However, data availability has greatly improved during the past few years. We are now able to integrate automated performance-data downloads into our performance reporting templates, just like we do for mutual fund data.
The second major advance for CITs is in data transparency for plan participants. In the past, retirement plan participants had to wait for printed, quarterly statements to infer how their investments had performed in the previous quarter. Now, performance data is most often available for CITs on a monthly schedule, which is a timely benefit given recent market volatility. Moreover, this data is often available on a webpage or through an employee retirement portal; participants do not typically have to wait for printed statements direct from their recordkeeper. While CIT data is not as universally accessible and timely as a mutual fund data, there has been clear progress.
Ongoing challenges to CIT adoption
As for the popularity of CITs, there is less verifiable, public information. Advocates within the industry - the custodians and investment managers who offer CITs - will tell you they are getting more popular. For instance, Franklin Templeton reports that CITs have grown to $3.1 trillion, but this expansion of assets might be attributed to the growth of market valuations over the past few years rather than improved adoption rates. Naturally, there is a level of transparency that is going to be missing – a complaint which mirrors our previous objection to the lack of clarity in the space itself.
Lets consider the continuing reasons not to use CITs. What is preventing greater adoption of these investment vehicles. Every year, Cerulli Associates puts out a comprehensive report on the defined contribution universe. According to the 2019 report, in partnership with the Coalition of Collective Investment Trusts, Cerulli Associates published their findings regarding the greatest obstacles of CIT adoption inside retirement plans. Here are the top challenges they identified (participants were asked to select their top 3 concerns):
- Financial advisors lack sufficient knowledge regarding CITs (44% of respondents)
- Plan Sponsors and advisors have issues accessing clean and comparable data on CITs within databases (e.g. Morningstar, eVestment) (44% of respondents)
- CITs require a contract whereas mutual funds do not (44% of respondents)
- CITs are not as transparent as mutual funds (e.g. no ticker symbol) (44% of respondents)
- Plan sponsors lack sufficient knowledge regarding CITs (37% of respondents)
- Recordkeepers do not always accommodate using CITs (19% of respondents)
- Lack of a three-year track record for the current IT version of existing strategy (19% of respondents)
- CIT minimums are too high (19% of respondents)
- CITs take longer to implement than a mutual fund (7% of respondents)
- CITs are not always cheaper than a mutual fund (7% of respondents)
- CITs are not SEC-Registered (4% of respondents)
A final thought
There are some interesting takeaways from this report. This sort of analysis will do a reasonably good job at identifying and ranking the largest problems. You will note that the top five challenges were identified by approximately 40% of all respondents. However, respondents were directed to identify up to three obstacles to CIT adoption. So, when 40% of all respondents have identified five major challenges, despite them being limited to three selections apiece, it implies that a greater number of respondents would have identified these issues as significant had they been allowed. In other words, the five problems at the top of this list are probably experienced by more plan sponsors and advisors than the percentage-of-respondents number suggests. Our interpretation is that there remain widespread criticisms of CITs despite the improvement.
CITs utilization has increased by some measures. However, legitimate obstacles remain to widespread adoption of these opaque and atypical investment vehicles. Plan sponsors and their fiduciary advisors may reasonably include CITs as part of a retirement plan solution, especially if they are primarily motivated by cost-sensitivity. On the other hand, employers and consultants could just as easily decide that the additional burdens in dealing with CITs outweigh any potential cost-savings and they could avoid these investment vehicles with a clear conscience.