Rapid advances in technology have greatly changed the manner in which the world invests. Gone are the days of sending in trade orders by wire, phone, or mail to a broker-dealer for completion. A single individual now has the ability to place real-time orders from anywhere he or she has internet access. Along with the advances in trading, technology has allowed investment vehicles that go beyond the traditional approach of buying individual securities. Individual securities can be grouped into pooled investment vehicles, permitting them to be managed by a single portfolio manager. Investment value is tracked by the number of shares purchased by the entity that is offering the pooled investment vehicle. This type of investment vehicle can make up an individual’s entire portfolio (e.g. target retirement date funds), represent a broad asset class as a building block to be used with other investments (ex. an S&P 500 Portfolio), or be a very focused investment on a small portion of the market (e.g. German small size companies). There are many different types of pooled funds available. A few of the most common types are summarized below.
Mutual Fund – The most common type of pooled investment, a mutual fund is a pooled asset that is registered with and regulated by the US Security and Exchange Commission (SEC) per the Investment Company Act of 1940 if it is offered for sale in the United States. A mutual fund can give almost any investor access to professional money management, starting with a relatively minimal investment. Mutual funds are only priced and traded at the end of each trading day. While this is not a concern for the majority of investors, those who are trying to time market movements may not like the restriction. The Investment Company Act of 1940 subjects mutual funds to significant reporting requirements, including the publishing of an extensive prospectus.
Exchange-Traded Fund (ETF) – ETFs are very similar to mutual funds on the surface, but there are two important differences of which investors should be aware. First, ETFs are traded directly between investors, unlike mutual funds where all trades go through the fund company. This allows ETFs to avoid capital gain distributions more efficiently than mutual funds, but they can also sell at different prices than the underlying securities held in the ETF. This price difference is dependent on supply and demand factors for the fund. The second difference between mutual funds and ETFs is that ETFs can be sold throughout the day, and their prices change on a continuous basis while the investment markets are open.
Collective Investment Trusts (CITs) – CITs are not available to all investors, but they are an option for some qualified retirement plans. They are very similar to mutual funds with one major difference–they are not regulated by the SEC. Instead, CITs are subject to banking regulations. This reduced reporting requirement often allows CITs to offer lower fees, but that advantage is generally accompanied by a lower level of transparency. When considering investing in CITs, be sure to consider the level and frequency of reporting prior to investing.
Separate Accounts – Separate Accounts are similar to mutual funds, but are offered by insurance companies. Separate accounts can either offer a custom strategy or serve as a vehicle to hold a ’40 Act mutual fund. The stable value offering that is common in defined contribution plans is often structured as a separate account. Similarly to CITs, separate accounts also tend to have a lower level of transparency than mutual funds, as well as a higher cost due to additional insurance company fees. A close examination of reporting and fee structure will be necessary before investing.
The type of account and the custodian that hold the assets will both play a large role in what type of investments are available in a particular situation. An on-going check on the type of investments available for the account, both at the current custodian and at alternative custodians, is an important due diligence step for any investor.
Curious about what pooled investment vehicle(s) could be right for your account? Would you like assistance performing a due diligence review? Talk to one of our experts today!
David Lytle, FSA, CFA, MAAA
Investment Consultant and Actuary
All investment advisory services and fiduciary services are provided through Conrad Siegel Investment Advisors, Inc. (“CSIA”), a fee-for-service investment adviser registered with the U.S. Securities and Exchange Commission which operates in a fiduciary capacity for its clients. Investing in securities involves the potential for gains and the risk of loss and past performance may not be indicative of future results. Any testimonials do not refer, directly or indirectly, to CSIA or its investment advice, analysis or other advisory services.