Factoring in fees
NEW YORK – While the array of 401(k) choices can seem daunting, many workers appear to be seeing one thing clearly: the value of lower expenses.
The asset-weighted expense ratios for stock mutual funds in 401(k) plans fell to 0.74 percent in 2006 compared with 0.76 percent the year before, according to new findings from the Investment Company Institute, the mutual fund trade group. The asset-weighted figure, which reflects where investors put most of their money, compares well with the simple average for stock funds, which is 1.5 percent.
About half of the $2.7 trillion invested in 401(k) plans at the end of 2006 was put in mutual funds. Of the 50 million participants in 401(k) plans, many of those investing in mutual funds tend to put money into low-cost funds with below-average turnover.
“The 401(k) space is a highly competitive space, so you’ve got not only a whole bunch of mutual funds competing to be in the line-up but a whole bunch of other products,” said ICI’s Sarah Holden, a co-author of the report.
Mutual funds have faced competition not only other mutual fund providers – driving down fees on actively managed funds as well as index funds – but also from newer types of investments such as exchange traded funds. An ETF is a security that tracks an underlying benchmark much like an index mutual fund but trades like a stock on an exchange. It can, therefore, be bought and sold during the trading day.
Holden contends while many forces are at work, employers are becoming better at extracting more from the companies that they hire to oversee their 401(k) plans. Big companies, for example, can promise access to a large employee base if an administrator lowers its oversight fees.
While an employer and its workers typically share the costs involved in administering the 401(k) plan, it’s in the interest of both sides to keep these costs down. Companies with competitive 401(k) plans can find it easier to attract and retain talented workers.
“The employers are very actively monitoring and keeping track of the performance that they have in their plan,” Holden said.
Workers’ attention to fees has increased in recent years. Another ICI study found that for the first time more workers were first considering fees rather than an investment’s track record when deciding where to invest.
Savvy investors are not only searching for low-cost investments but, in the case of funds, are looking for those with low portfolio turnover, which helps hold down expenses. Other expenses can include everything from overhead to research.
“I think the 401(k) sponsors have gotten a little more diligent in picking good investments. In the case of a 401(k), there are pressures coming from more than one side. You’ll have both employers and employees that want lower-cost options,” said Christopher Davis, an analyst at investment research provider Morningstar Inc.
“If you look at where a lot of the flows have gone in recent years, it’s gone to shops that have lower costs.”