The exchange traded fund (ETF) 401(k) space is heating up as big name players, such as Schwab and TD Ameritrade, announce their entry into the field.
I recently caught up with Stuart Robertson, head of ING DIRECT’s ShareBuilder 401(k) unit, to talk about the accelerating growth of ETFs in 401(k)s.
ETF Trends: While ETFs in 401(k) plans is not a new concept – ING Direct’s ShareBuilder 401k has been offering ETF-based 401(k)s for the past 5 years – why is it that big, established players, such as Schwab, are just now looking into it?
Stuart Robertson (Stuart): There are a couple of things going on here that are creating a much faster move towards ETF-based 401(k) plans:
The impending Fee Disclosure legislation – this is expected to have the biggest impact in the small-, mid- and, to some extent, the large-company arenas where many employers may not be fully aware or entirely understand the fees and expenses in their plan. Participants are often paying two to three percent of their savings to cover costs and expenses associated with active management – we believe all-in participant expenses of one percent or less is fair and where the industry is headed.
ETFs, with their low-expenses, are a huge key in delivering a low-cost plan with potential for better rewards. More players are seeing the writing on the wall and getting in the game.
ETF Trends: What is the “Fee Disclosure” legislation mandate and when does it become an enacted law?
Stuart: The new rules (referred to as the 408(b)(2) rules after a section in the Employee Retirement Income Security Act of 1974) will remove confusion so employers can easily compare providers on business costs and employee expenses. This will enable employers to really focus on their service needs and determine if they’re getting a fair price on their plan.
For example, employers are also looking to reduce risks of offering a retirement plan to their employees. Controlling costs is one way and having a provider that takes on some of the investment fiduciary risks like we do is appealing and delivers real value for the price.
As of January 1, 2012, employers will have complete transparency into what they’re investing in. Many traditional players have felt that making the fees obvious to participants could deter participation, but employers are often unsure of these costs too. These days are numbered with this new layer of transparency.
ETF Trends: What are the benefits of using ETFs in 401(k) plans?
Stuart: ETFs help in some big ways. We can’t control the markets, but we can control costs and expenses – research shows that low-expense funds have historically beaten high-cost funds, which is even more important than star ratings as Morningstar studied last year. ETFs are low-expense leaders, given the low costs inherent with passive management of index-based funds, and they avoid some trading costs inherent with mutual funds. Putting these low-cost investment options to work can often lower employee expenses by half or more.
Many company plans are built with actively managed mutual funds with expense ratios in excess of 1.25%. Now imagine an investment line-up with low ETF expense ratios and a historic track record of outperforming comparable mutual funds over a period of five or more years. As we account for annual compounding, that comes out to a huge expense and performance advantage. Even with similar or slightly reduced recordkeeping and investment management fees tacked on, ETFs enable a dramatic shift.
ETF Trends: How has the growing acceptance and proliferation of ETFs helped expand the 401(k) space?
Stuart: I believe the success of pioneers like ShareBuilder 401(k) have clearly shown the value is there and attractive to the marketplace. We have well over 3,000 installed clients in just 5 years.
Last year, iShares revealed that their ETF-401(k) programs exceeded $2 billion. Now, familiar fund providers and other big 401(k) brand providers will enable even faster market acceptance. iShares, SPDR and other ETFs providers are well-known and trusted brands among registered investment advisors and sophisticated investors alike, but the providers are not as familiar to typical investors and employees with a 401(k) account. However, Vanguard, a trusted and well-known brand, is a name that even most first-time investors know. They have become a major fund provider in the ETF marketplace over the last five or so years.
Because strong brands like ING DIRECT’s ShareBuilder 401(k) are already established in the space and several other name-recognizable players are following suit, we can expect to see greater exposure and acceptance in the marketplace. With more providers enabling ETFs on 401(k) platforms, they will have the access to support their clients with ETFs in their plan. It’s clear that ETF-based plans are growing at a strong rate in a relatively short-time period and are poised to make huge gains over the next five years.
Stuart Robertson is general manager and principal of ShareBuilder Advisors, LLC which operates www.ShareBuilder401k.com. ShareBuilder Advisors, LLC is a subsidiary of ING Bank, fsb.
For more information on ETFs and 401(k)s, visit our 401(k) category.
Max Chen contributed to this article.