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IF YOU’RE A FAN of basketball, you may be familiar with the Lopez twins—Brook and Robin. On the surface, they are identical in every way. Both stand seven feet tall. Both went to Stanford University. Both entered the NBA draft in 2008 and both were picked in the first round. Since then, both have enjoyed successful careers.
A casual observer would be hard-pressed to see any difference between the Lopez twins, but there is one: While they are both impressive players, they have different styles and, over the course of his career, Brook has delivered somewhat better performance. This, in turn, has contributed to greater career success. Like all NBA players, both have earned millions, but Brook’s cumulative earnings have been 80% higher than Robin’s.
When it comes to your investments—and especially your retirement accounts—it’s critical to be aware of a similar kind of “twins” problem that could have a material impact on your savings.
As you may know, mutual fund companies use a concept known as “share classes” to charge different investors different prices. Depending on how you purchase a fund and how much of it you purchase, you may pay a higher or lower price. At Vanguard Group, if you want to buy its fund that tracks the S&P 500 Index, you have four choices: Investor Shares, which cost 0.14% per year; Admiral Shares, which cost 0.04%; Institutional Shares which cost 0.035%; and finally, Institutional Plus Shares, which cost just 0.02%. The underlying investments are identical in all four cases. It’s just the price that differs.
Other fund companies use their own terminology to distinguish among share classes. In many cases, you will see Class A, Class B and Class C. Again, the underlying funds are all the same; it’s just the fees that are different.
Altogether, in the U.S., there are approximately 8,000 different mutual funds. But when you add up all the share classes, there are more than 25,000 different fund options available to investors.
This can be confusing, but at least the share class designation is included wherever you see the fund’s name, and ticker symbols are unique to each share class. That allows you to use publicly available data sources, such as Morningstar, to compare funds and share classes.
When it comes to your retirement account, however, it’s more complicated, owing to a growing trend known as Collective Investment Trusts (CITs). In simple terms, a CIT is a private fund established by an investment firm for an individual employer. It will be an exact replica of a fund available to the public. But here’s what’s tricky about them: CIT funds have names that are identical, or nearly identical, to their publicly-traded siblings, but their fee structures are usually very different.
Let’s look at an example—a popular fund called Vanguard Target Retirement 2040. Suppose your employer offered this fund in your company 401(k) and you wanted to research it. You could go to the Vanguard website, where you would find a detailed description of the fund and its holdings. You would also see the available share classes and associated fees. In this fund’s case, you would find it available as Investor Shares, costing 0.15%, or Institutional Shares, for 0.09%. By any standard, either of those fees would be quite reasonable, so you might decide to invest.
But here’s the catch: Your company’s variant of the Vanguard Target Retirement 2040 might be something entirely different. It might be a CIT, with its own customized price, created either by Vanguard or by a third-party record keeper especially for your employer. But it can be hard to know. Since CITs aren’t available to the public, they don’t carry ticker symbols and this makes them impossible to research using the usual publicly available resources.
The impact could be significant. In the case of Vanguard Target Retirement 2040, which is available to the public for either 0.09% or 0.15%, I have seen CIT versions which cost as little as 0.05% and as much as 0.91%. The latter version would have been created by a third-party record keeper, and the cost likely includes a host of “administration” costs. To put it in dollar terms, if you have $100,000 in your account, a 0.05% fee would cost you $50 per year, while a 0.91% fee would cost you $910. And you would incur that cost every year.
In the past, CITs were less of a consideration. In 2011, fewer than half of retirement plans offered them. But, by 2016, that number had risen to two-thirds and they are growing quickly. In some cases, this is a good thing. If you work for one of the companies that is able to offer funds for less than they are available to the public, that’s great. But you’ll need to do your homework. Here are three suggestions:
Adam M. Grossman’s previous articles include Non Prophet, Stress Test and All of the Above. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman.
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The general thesis is sound: watch out for fees and see if there are equivalent offerings with lower fees. Nevertheless, there is still a difference between various share classes of a fund (i.e. underlying portfolio), and shares of clone funds (with slightly different portfolios). As you note, CITs may be clones – not quite _exact_ replicas, but close enough for most investment purposes.
At Vanguard, if you want a fund that tracks the S&P 500 index, you have a choice of two different funds with the same objective, but not identical portfolios. One is the familiar Vanguard 500 fund, with share classes Institutional Select (VFFSX, 0.010% ER), Admiral (VFIAX, ER 0.040%), Investor (VFINX, ER 0.140%), and ETF (VOO, ER 0.040%). Note that two of the share classes have identical fees.
https://investor.vanguard.com/mutual-funds/profile/VFFSX
The other fund is the Vanguard Institutional Index fund that also tracks the S&P 500. It comes in two different share classes: Institutional (VINIX, ER 0.035%), and Institutional Plus (VIIIX, ER 0.020%).
https://investor.vanguard.com/mutual-funds/profile/VIIIX
As of 9/30/2018, the former fund held 509 stocks in a portfolio valued at $459.3B. The latter held 508 stocks in a portfolio valued at $235.2B.
My employer switch a couple of our choices in our 457 plan, mainly target dated funds to CIT’s, because of fees. Hard to understand at first, yet with little explaining, participants have caught on.