Reducing Costs of 401(k) Plans with ETFs and Commingled Trusts

by Richard W. Kopcke, Francis M. Vitagliano, and Zhenya S. Karamcheva

July 2010

IB#10-11

Introduction

Increasingly, employers who provide their employees with a retirement plan are relying on 401(k) and similar defined contribution plans instead of defined benefit plans. As a result, participants are paying more of the cost of managing their pension plans, which can take a substantial toll on their retirement savings. Over a 30-year career, for example, an annual fee of 0.7 percent of assets reduces the purchasing power of a participant’s balance at the time of retirement by more than one-eighth.

This brief considers the potential savings that sponsors can achieve in their 401(k) plans by reducing the “trading costs” embedded in the investment options that are often included in their plans. Most of the money invested in equity within 401(k) plans is held in actively-managed mutual funds. Although the investment objectives of these funds can offer more promising returns than the passive investment strategies of broad index funds, actively-managed funds can be costly. Without giving up the investment objectives of actively-managed funds, 401(k) plans can achieve substantial savings by shifting to exchange-traded funds (ETFs) and commingled trusts...

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