Thursday, March 15, 2012

The Gap Between the Cost of Actively and Passively Managed TIAA-CREF Funds Widens

During the last few years, the expense ratios of actively managed TIAA-CREF mutual funds have risen.  For example, the expense ratio of the TIAA-CREF Large Cap Value fund retirement class rose from 0.47 in 2003 to 0.77 in 2011. Similar increases occurred in other actively managed TIAA-CREF funds. This is despite the fact that the average expense ratio of stock mutual funds declined over the same time period. (see p.64 of 2011 Investment Company Fact Book). TIAA-CREF expense ratios are still lower than the average expense ratio across all stock mutual funds, but since most of TIAA-CREF mutual funds are held inside retirement plans, we should compare the TIAA-CREF expense ratios to expense ratios of mutual funds inside retirement plans. According to this ICI study, the average expense ratio inside retirement plans is only 0.71 – a bit lower than many of TIAA-CREF’s actively managed funds.

Interestingly, expense ratios on TIAA-CREF’s index funds have declined somewhat. The expense ratio on the retirement class of TIAA-CREF’s longest running index fund, the S&P 500 index fund, declined from 0.44 in 2003 to 0.34 in 2010. Index funds, especially S&P 500 index funds, have become a commodity which drives down expenses. TIAA-CREF index funds in the retirement class are still about three times as expensive as Vanguard’s or Fidelity’s index funds, so perhaps a mild decline in cost is to be expected.
The allocation of assets between actively and passively managed funds has always influenced the overall cost of a retirement plan. The widening gap between the costs of actively and passively managed funds magnifies the effect of allocation between actively and passively managed funds on the overall cost of the plan. Informing participants about the importance of costs on long-term performance seems more relevant than ever. In addition, plan sponsors could mitigate the rising costs of TIAA-CREF mutual funds by insisting on institutional share class , which some very large plans are beginning to offer. The institutional class has expense ratios of about 20 basis points lower than the retirement class.