Lower-cost collective investment trusts (CITs) continue to eat away at mutual funds’ hold on target date funds and are expected to be the primary target date vehicle in 2023, a new report suggests.
Consider that at the end of 2017, mutual fund-based target-dates (TDs) held 63% of target-date assets to 37% for CIT-based products. At the start of 2023, this ratio had changed to 52% for mutual funds to 48% for CITs. At the current rate of change, assets in CIT TDs will top those in mutual fund TDs during calendar year 2023, according to Sway Research’s The State of the Target-Date Market: 2023, which examines asset trends across providers, products, vehicles, management styles and glide path structures.
“I do believe it is cost that’s driving the shift from mutual funds to CITs,” Sway’s founder, Chris J. Brown, tells NAPA. “This is being exacerbated by the wave of lawsuits targeting DC plans for using higher-cost vehicles when lower-cost CITs (and in some case mutual fund shares) were available,” he adds.
The report also reveals that few TD providers were spared losses for the year, with most experiencing a double-digit drop in assets, but a majority of the series that managed to produce asset gains were CIT-based. With the year “bringing pain” to both equity and fixed-income asset classes, assets in non-custom TD portfolios fell 13% in 2022, to close the year at $2.83 trillion, down from $3.25 trillion at the end of 2021.
But thanks to the ongoing shift from mutual funds to CITs, CIT-based solutions lost just 7% to finish 2022 at $1.35 trillion, while mutual fund-based series slid 17% to close the year at $1.49 trillion. Over the last five years, CIT TD AUM increased an average of 16% annually versus just 6% for mutual fund TD AUM. Consequently, assets in mutual fund-based TDs ended 2022 below not only 2021’s level, but 2020’s level as well.
So just how important are lower fees to TD success? At the close of 2018, there were more mutual fund-based TD series (62) than CIT-based series (61). Today, there are 79 CIT-based TD series as opposed to just 51 using a mutual fund format, Sway’s research shows.
What’s more, assets in CIT TDs topped mutual fund TDs at Vanguard for the first time in 2022—$534 billion to $522 billion at year-end. In addition, nearly a quarter of Fidelity’s TD AUM is now held in CITs, while more than half of T. Rowe Price’s and JP Morgan’s TD assets are also held in collective trusts.
Shifting Control?
Not surprisingly, the 2022 market decline did little to shift control from defined contribution (DC) recordkeepers. Firms with both asset management and DC recordkeeping functions control 83% of every dollar invested in TDs, despite managing only 54% of TD series.
The 10 largest TD providers—which include seven firms with both full-service DC solutions and asset management—now control more than 94% of the AUM, up from 91.7% in 2017. Pure asset managers controlled just 16% of TD assets at the end of 2022, despite managing 22% of TD series.
After two consecutive years of declining asset share, Vanguard gained ground in 2022 to finish the year with $1.1 trillion of TD AUM, good for 37.3% of asset share—the same level it held at the close of 2020. Notably, Vanguard gained market share despite losing $133 billion of TD assets in 2022, Sway notes.
Only four other firms—Fidelity, T. Rowe Price, BlackRock and Capital Group—manage more TD assets than Vanguard lost last year. BlackRock is the only firm among this group that does not offer a full-service DC product.
Meanwhile, flexPATH Strategies, which is a relative newcomer launching its first TD series in 2015, is now the 10th largest provider of TD solutions, managing $26 billion across a dozen different TD series. In fact, since the start of 2020, the growth of flexPATH Strategies—31% annually—outpaced all other large-scale TD providers (i.e., those with at least $1 billion of TD AUM), the report notes.
‘Passive’ TDs on the Move
TDs that invest in passively managed underlying funds finished 2022 with a 60% share of TD assets, up from 51% just five years ago. Over that same five-year span, assets in passive TDs increased 14% annually versus only 4% for active TDs. Hybrid TDs, meanwhile, grew 15% annually, but from a much smaller asset base, the research shows.
At the start of 2023, active TDs held 31% of the AUM, down from 33% a year earlier, while hybrid offerings held 9%. “It’s highly likely that Passive Target-Date solutions will hold more than twice the assets of Active solutions before 2023 comes to a close,” Brown further observes.
Low-Fee Advantage
On an asset-weighted basis, TD expense ratios fell again in 2022. At year-end, the median asset-weighted ratio of an active TD mutual fund series was 1.4 times the median hybrid series, and 2.7 times the median passive series. The asset-weighted expense ratio of an average active mutual fund series dropped from 58 basis points (BPs) to 57, while hybrid series fell from 43 to 41 BPs, and passive TDs moved into single digits—from 11 BPs to only 9.
Sway does not evaluate fees for CIT products due to limited CIT fee and expense data, but notes that similar differences likely exist among CIT-based TDs as well.
The firm’s annual study is based on a proprietary database of mutual fund and CIT target-date portfolio and asset data, which includes 130 TD solutions with AUM as of year-end 2022, spread across more than 6,000 mutual fund share classes and CITs.
