Francis LLC’s Edward McIlveen, CFA unpacks what today’s conversations look like between consultants and plan sponsors, including where the biggest interest tends to come from (with target-date portfolios leading the way). We also break down what makes CIT due diligence different, what paperwork and agreement reviews are typically required, and the key underwriting questions that must be answered to satisfy the ERISA duty of prudence.
Jeffrey Snyder, Broadcast Retirement network
Ed, it’s always great to see you. Thanks for joining us again this morning.
Edward McIlveen, CFA, Francis LLC
Thank you.
Jeffrey Snyder, Broadcast Retirement network
Well, I don’t know if, you know, I read a lot of the trade publications. I see a lot on social media. There’s a lot, a big, I would say a hard press for collective investment trusts.
I don’t know if you see that as well. But I want to start off by asking, are you seeing clients, meaning plan sponsors, take a greater interest in these types of investment vehicles?
Edward McIlveen, CFA, Francis LLC
For sure. There’s a lot of ways that these kinds of investment vehicles can help streamline certain things when it comes to just thinking about expenses. What it does do, though, is a plan sponsor provides a reduction in expenses, but you also have to fight for some transparency.
And so what we find is that as we bring these kinds of opportunities and these kinds of vehicles to plan sponsors, that we always say, you have to just consider that there’s a little bit more homework here that needs to be done. And the homework is usually just making sure that you’ve got a lot of things lined up the same way you would expect for any other kind of investment strategy. And once we kind of level set that, then plan sponsors are like, all right, what do we need to do from here on out?
Jeffrey Snyder, Broadcast Retirement network
I like that you gave the plan sponsors homework. And it’s not school anymore. So that’s good.
Summer school. Let me ask you, in terms of the particular asset classes, where do you have these conversations, a client reaches out and says, I want to talk about CITs, or maybe you bring it up in the meeting, the quarterly meeting. Are there asset classes that stick out in terms of where the interest lies?
Like, for example, more efficient asset classes like an S&P 500, as an example.
Edward McIlveen, CFA, Francis LLC
Yeah, S&P 500 would certainly be one of them, but probably the more impactful one from an expense standpoint is going to be around the target retirement date portfolios. And so when you think about some of the bigger providers in the marketplace, T. Rowe Price, Vanguard, there’s a lot of savings that comes along with this.
And this is going to be anywhere from 40 to 50, sometimes up to 75% of a plan sponsors assets. So when you start running some of the numbers around this, and you can say, hey, we can look at savings that’s in the tens of thousands, maybe even over a couple of hundreds of thousands of dollars by going to a collective investment trust structure, then these things really start to perk up people’s ears. And like, all right, what do we have to do in order to make that take place?
And as we talk about the homework around this, something to really keep in mind, even though there’s an opportunity for the cost savings, there’s a lot that needs to be done to make sure that the investment strategy is the same, that the people running it are the same, that the benchmarks are the same. And we have seen outside of the target retirement date, sleeve areas, like large cap growth that are actively managed emerging market debt, we will be presented different kinds of collective investment trusts. But when you start doing a little bit of digging, you find out certain things like, yeah, this isn’t exactly the same strategy, or there’s a different benchmark that we’re going to be following.
And you have to make sure that when you’re underwriting this, that you’re bringing forward to the plan sponsor and say, all right, well, we’ve got a savings vehicle here for you to consider, and a collective investment trust. And it’s exactly the same in terms of the people process philosophy and the strategy. So our expectation is that the collective investment trust, when you look back over a timeframe, and we like to use a minimum of at least three years of track record for a collective investment trust, it should outperform the comparable mutual fund.
And if it doesn’t, why is that? And usually what we find is that there’s a cash flow issue, or maybe there is a difference in strategy around it. But when you think about the hooks here to really get plan sponsors interested, when we start talking to them about this, we have to just realize that, yeah, there’s a savings that can usually be realized for the plan sponsor.
But in terms of just having the right paperwork in place to underwrite this, like you would any other investment that goes into the retirement plan, you have to still satisfy that duty of prudence that ERISA is very, very well known for.
Jeffrey Snyder, Broadcast Retirement network
So it sounds like that line of sight is very important. Obviously, it’s important in terms of the due diligence process. So let’s just say you have the conversation during a quarterly meeting with a client.
So they say, oh, we were presented with this. This is an opportunity to save. Can you, Ed and Francis Way, take a look?
What’s the process? How long does it take? I don’t want you to give away the state secrets here, the secret sauce, but what’s the process that you would typically follow generically to do this due diligence, to present to the client?
Edward McIlveen, CFA, Francis LLC
Yeah, we want to take a look at things like trust agreements, participation agreements, and then just get in writing that the strategies are exactly the same as what we see within the mutual fund world. We, as I mentioned, we want to have a three-year track record and at least $100 million in assets to demonstrate that, yeah, cash flows, as much as they can be maintained from impacting the strategy, that there’s some kind of, you know, some kind of ballast here for new investors that are coming on in. Some of the particular agreements will say, you know, if you are a certain percentage of the collective investment trust, you might be beholden to certain kinds of redemption limits.
These are things that if you don’t have enough money in these vehicles, this is something that you have to consider. And we are usually going to be a little bit gun-shy when it comes to being introduced to founders pricing. So this is the situation where somebody will come to us and say, well, we know that you use this particular strategy.
We’re thinking of launching a collective investment trust. How would you like to have some founders pricing as a result? I get it.
Jeffrey Snyder, Broadcast Retirement network
So you’re like the seeder for the fund.
Edward McIlveen, CFA, Francis LLC
Correct. Correct. Yeah.
Jeffrey Snyder, Broadcast Retirement network
And so that’s part of the plan is.
Edward McIlveen, CFA, Francis LLC
Yeah. Yeah. And that’s one of the benefits of a collective is that you can have some more negotiation ability versus a mutual fund where you don’t have that.
And so there’s that opportunity. But as I mentioned, we’re going to be the very first investors and that is going to be how they would present it to us. Well, we’re just not going to be interested in that because we need to see at least three years of track record and at least a hundred million dollars in assets.
And that track record, by the way, does need to meet expectations that the expense savings is going to be represented in terms of outperformance relative to the comparable mutual fund strategy.
Jeffrey Snyder, Broadcast Retirement network
So is the only benefit to a CIT versus a mutual fund? Is it only the fee expense ratio? Because if you read the trade press in particular, that’s a key from my take, that’s a key element.
But is that the only advantage? And I don’t want to say that as if there are disadvantages, but is that the major advantage of moving to a CIT?
Edward McIlveen, CFA, Francis LLC
Absolutely. That is a major advantage of it. What you lose, as I mentioned, is some of the transparency.
So unlike a mutual fund where you can go in and just look at any website to try to find how you’re doing, you can’t do that. You have to go to the plan sponsor website, go to the record keeper website and just find out the information that way. So there is a loss of transparency.
I’d also put forward to that narrowing in on the benefit of having the cheaper expense structure of a strategy that is time tested is worth a lot. But in the CIT structure, you get another side where people start introducing things. And the CIT provides a lot more flexibility to have different kinds of strategies, different kinds of private assets that can be put into those strategies where you can’t put as much into a mutual fund strategy.
So there’s a bit of a monitoring process that needs to be done proactively following your underwriting process, because there’s a lot that’s going on right now. Of course, we’ve talked a little bit before about the Department of Labor’s proposed rules around having more alternative assets. So this would potentially open up the floodgates for private equity, private credit, Bitcoin.
If you wanted to have that as part of a strategy, you can do that, at least under these proposed rules. But when we think about the CIT structure, it is underwriting a time tested strategy, making sure that the cost differential is reflected in the net performance and that the people process and philosophy is consistent around it. So if that can all be achieved and held out as the big benefit to this, well worth it for a plan sponsor to be able to pursue that.
But be aware of all the other things that can go on with regards to, and there’s the whole topic now of co-manufactured products with record keepers that want to introduce maybe their own stable value fund and then partner with another target date provider as well to kind of create a little bit more of a synergistic benefit to sustain on that platform. These are the things and the issues that as consultants and as plan sponsors, you just need to be aware of. And you talk about homework.
I will say that the homework and the book of materials that keeps growing as a result of a proliferation of more CIT structures across all these different kinds of strategies, it is a little bit mind boggling at times. I try to keep one’s grasp of everything that’s happening because every record keeper that can and has tried to go after this particular marketplace is just looking for different ways to have customer retention. And if you can have a product that is not offered outside of their platform, they want to be able to hold that out as well as a reason to stick around.
Jeffrey Snyder, Broadcast Retirement network
Does this surprise you that there’s not publicly available information? I mean, I remember, geez, record keeping 25 years ago, and the record keeper I worked for did have, I mean, this is years and years ago, did have a composite to the S&P 500. And at that time, there was no readily available information other than what was published.
So does it surprise you that a Morningstar or used to be Lipper, I mean, Evestnet, others don’t have this readily available for professionals like yourself? It just seems a little odd in today’s environment.
Edward McIlveen, CFA, Francis LLC
Yeah, it’s certainly from a transparency standpoint, it would make everybody in our world feel a lot better about all this. Because, like I had mentioned, if you can’t go out to another website and just pull down how your investment is doing, but you can only do that through your record keeping website, well, you know, this seems and seems to, you know, just kind of not be as transparent as one would think should be made available. And it’s really reflected as part of reflective of the regulations that are out there and what needs to be published.
The CIT world falls under a different regulatory regime than mutual funds. So the mutual fund world is going to be under the SEC, CITs, that’s going to be under the Office of the Comptroller of the Currency, the OCC. And there’s probably going to be a day just thinking down the road about how creative some of these CIT structures could get that you can envision that there might be more regulation and more push for if something were to go wrong.
Geez, didn’t we all know about this? Couldn’t we all see this? No, we couldn’t, because there was nothing that said that you had to have publicly available information.
Wouldn’t be surprised if years down the road that the regulators would say, yeah, you got to start doing more on that front.
Jeffrey Snyder, Broadcast Retirement network
Yeah, well, you know, I just watched a big short again for the umpteenth time, such a great movie. And I guess everyone missed that. So it is if they missed that one, they probably, and they’re not analogous, of course, but that is just an example of a big miss for the regulatory and the rating agencies.
Let me ask you about, we’ve got about four minutes left, and let me ask you about the transition. So a client says, let’s do this, and they, I’m assuming, have to sign paperwork. But what’s the process to transition to the CIT?
Is it longer or shorter than the typical 60 or 90 days that we would see with a mutual fund in a retirement plan?
Edward McIlveen, CFA, Francis LLC
It’s getting better. And some of the providers, they’re doing a better job with the paperwork and shortening the amount of paperwork that is required. So in, I would say, probably three, four or five years ago, if a client wanted to move over to a CIT structure, it was definitely much more involved in terms of just understanding what the participation agreement looked like, getting a list of authorized signers.
Some of these trust companies, they want you to have the client sign off on literally seven different things. Some providers today just say, hey, we’ve got one document, a couple of signatures, let’s go. And in that world, and in the world that seems to be forming itself more and more, is about the same amount of transition time to move a strategy from a mutual fund to a CIT would be equivalent to when you’re going from one mutual fund strategy to another mutual fund strategy for a replacement fund.
So if we look at it as today, I think a lot of the friction that was part of this is starting to be eliminated and it’s just some of the technologies as well as just some of the legal documents have just been shortened, which is a good thing overall to just eliminate as much time gap as possible when you’re thinking about making a change.
Jeffrey Snyder, Broadcast Retirement network
If we could just make it easier for people to roll over, that would be, that would make me very happy and a lot of people very happy. Let me ask you lastly about the communication to the participant. You know, education, participation, I know it’s very important in what you do.
It’s in your DNA as a firm. I think it’s very important that people understand what their investing is. How critical, is it different when you shift from a mutual fund to a CIT or separate account to a CIT?
Do you have to have more specialized communications to make sure that people know that the fund that they were in is now going to be this fund?
Edward McIlveen, CFA, Francis LLC
The naming conventions around some of these CITs are certainly things that I think the marketing departments should go back and maybe revisit because some of the product names that you see and there’s a CIT that’s offered for a comparable mutual fund, you open up your statement and you look at certain things. This would lead somebody that has taken a pretty hard look at it to think, geez, what am I invested in here? Is this actually the same thing?
And the answer is yes, it is, but the problem is that the naming convention is so different from the publicly available mutual fund that you do have to be more intentional around just explaining that. And from a communication standpoint, it’s not only just the initial announcement, but also when people are looking at their statements, what is appearing? And we’ve worked with record keepers to help them create different disclaimers.
We obviously have educated all of our financial planners to be able to tell them, hey, when someone calls in and says, what is this product? How does it compare to the previous? The name change is the central issue, but nothing else.
And so people process and philosophy and, oh, by the way, it’s at a discount. So it’s a good news story, but it does take an extra moment to tell about that, not only just on the initial announcement, but potentially also down the road when people are looking at statements and evaluating performance.
Jeffrey Snyder, Broadcast Retirement network
When I used to take phone calls, Ed, people used to call up and say, well, how do I look this up in the Wall Street? This is back when I’m old enough to have looked up the ticker symbols in the Wall Street Journal. Remember doing that?
I mean, you’re not as old as me, but we had to do that and they would call up. And that was a huge question that came. I mean, every day you had dozens and dozens of those that would come up on the call center, right?
And I would imagine something similar. Now they’re chatbots. They’re asking the chatbot.
Well, Ed, this is so interesting. Look, I think the industry continues to improve. We’re looking for ways to deliver lower costs, but it’s people like you and your colleagues that are really doing the due diligence to help explain this all and to make sure it’s the right fit.
Ed, thanks so much for joining us. And we look forward to having you back on the program again very soon, sir.
Edward McIlveen, CFA, Francis LLC
Thanks so much for the invite. Appreciate it.