Money goes where it is well-treated.
Most people in financial services get that. They don’t like it. But they didn’t have a choice. They had to reduce fees or die.
Reluctantly, they have “gone with the flow.” They have reduced the cost of investing. That change has been one of the nice things about this century.
Where money has moved if there was a choice…
Investors have moved money from mutual funds with sales loads and high annual expense ratios to genuine no-load mutual funds with lower annual costs.
After that, a lot of people moved money from still costly managed funds to low-cost index funds. It’s a practice I have been recommending in this column since late 1991, nearly 30 years.
If you work for a company that does its due diligence, you’ve benefited from lower costs without needing to do any work. Your company 401(k) plan has shifted to lower cost mutual funds. Some, like Exxon and Texas Instruments, have moved to index funds.
The Texas 403(b) Corral
But some people haven’t had a choice. They are corralled in high-cost investment plans.
Worse, many live right here in Texas. They are teachers and other public sector workers. They are eligible to participate in 403(b) plans. These plans are the nonprofit and public sector equivalent of 401(k) plans. We’re talking about thousands of people and billions of dollars.
Here’s a sample number. The Teachers Retirement System of Texas, which includes our university systems as well as public school teachers, has 1.6 million participants, active and retired.
Compare that to the 72,000 workers at ExxonMobil or the 30,000 employed worldwide by Texas Instruments. Workers at those two model companies can invest for less than 0.10 percent a year. And they pay no fees for exiting an investment.
Texas teachers, in contrast, face annual expenses that can now exceed 2.5 percent. They also face surrender charges up to 10 percent if they want to leave an investment.
That’s the deal they face in 403(b) plans all over the state.
Last century investing
So, the teachers responsible for preparing the next generation for life and work are saddled with investment expenses from the last century.
Skeptics need only check some financial services industry figures. A recent report from the Investment Company Institute makes these observations:
—Average equity mutual fund expenses fell from an average of 1.04 percent in 1996 to 0.50 percent in 2020. Average bond fund expenses were cut in half, too, falling from 0.84 percent to 0.42 percent.
— While only 46 percent of mutual fund sales were for no-load funds without 12b-1 fees in 2000, the figure nearly doubled to 88 percent by 2020.
— Whether the money went to actively managed funds or index funds, the bulk of the money went into funds whose expenses were in the lowest 25 percent of all similar funds. That’s clear evidence that money goes where it is treated well.
If it can.
Lessons from The 401(k) Averages Book
Similar evidence comes from comparing two editions of “The 401k Averages Book,” an invaluable benchmarking tool for employers who want to evaluate plans. The 2003 edition shows that total costs for a plan with 1,000 employees averaged 1.17 percent. The current edition shows that average costs have fallen to 0.75 percent.
Joe Valletta, editor and publisher of the book, told me: “I give credit to fee disclosures for bringing down costs. — It made plan sponsors aware of costs. — Now many sponsors evaluate their plans every year.”
“There are great opportunities for continued savings,” he said.
The book also makes something else clear. Size matters.
The benefits of plan size
Companies with fewer employees and less in assets to manage face higher costs than companies with many employees and lots of assets. While a company with 100 participants and $1 million in assets has typical costs averaging 1.86 percent, a firm with 1,000 employees and assets of $100 million has average costs of 0.75 percent.
Texas teachers and other public sector employees, however, are sold their 403(b) plan participation as individuals. That means they miss the readily available opportunities that come with size.
Here are just a few examples from the database of 403(b) investment expenses that were maintained by TRS until the Texas legislators decided it wasn’t necessary to collect such information. (I downloaded the data from the TRS website when it was still available.)
Some real life examples of higher costs
— Vanguard Wellington fund, investor shares (ticker: VWELX) is offered by Vanguard with an annual expense ratio of 0.24 percent. It is priced at 1.50 percent in a variable annuity.
— Vanguard 500 index, admiral shares (ticker: VFIAX), is offered by Vanguard with an expense ratio of 0.04 percent. But teachers pay an annual 1.29 percent in another variable annuity. And the variable annuity has an 8 percent charge for exiting the fund.
— American Century Equity Income (ticker: TWEIX) is offered by American Century with an expense ratio of 0.92 percent. But to get it through a Texas 403(b) plan will set you back 2.24 percent in a variable annuity.
— Fidelity Contrafund (ticker: FCNTX) is offered by Fidelity with an expense ratio of 0.86 percent. But 403(b) plan participants face an annual expense charge of 1.9 percent in a variable annuity. They also face a maximum 7 percent charge for exiting the fund.
There is absolutely no reason for this to continue. We only need to bring Texas into the same century as 401(k) plans and IRAs. It could be done by an observant and thoughtful Texas Legislature.
Related columns:
Scott Burns, “The Cost Map To Your 401(k) Plan,” 7/18/2014 https://assetbuilder.com/knowledge-center/articles/the-cost-map-to-your-401k-plan
Scott Burns, “OK, How Much Is Your 401(k) Plan Costing You?,” 10/12/2012 https://assetbuilder.com/knowledge-center/articles/ok-how-much-is-your-401k-plan-costing-you
Scott Burns, “The Biggest Cost of 401k Plans: Retirement Security,” 4/24/2001 https://assetbuilder.com/knowledge-center/articles/the-biggest-cost-of-401k-plans-retirement-security
Sources and References:
Fred Barstein, “Reform needed to improve teachers’ retirement plans,” 4/7/2021 https://www.rpaconvergence.com/reform-needed-to-improve-teachers-retirement-plans/?NLID=Retirement-Plan-Advisor&NL_issueDate=2021048&utm_source=Retirement-Plan-Advisor-2021048&utm_medium=email&utm_campaign=investmentnews&utm_visit=425312&msdynttrid=1mPNSSci-eOlXhZMqt4NRoklOMsCF8oR49qbf2dl8Y4
The 401(k) Averages Book https://www.401ksource.com
Chau Tran, “Texas Teacher Supply: 2020 Update,” 11/04/2020 https://www.tasb.org/services/hr-services/hrx/recruiting-and-hiring/texas-teacher-supply-2020-update.aspx
“Number of employees at ExxonMobil from 2001 to 2020,” Statista.com https://www.statista.com/statistics/264122/number-of-employees-at-exxon-mobil-since-2002/
“TI at a glance” : https://www.ti.com/about-ti/company/ti-at-a-glance.html
This information is distributed for education purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.
Photo by Element5 Digital from Pexels
(c) Scott Burns, 2021