Are Collective Investment Trusts Worth Your Attention?– October 20, 2015 by Marcy Kempf

A Collective Investment Trust (CIT) — a comingled pool of assets structured as a trust and administered by a bank or trust company, which serves as the Trustee — has been available as an investment vehicle since the late 1920s. While there has been an increase in press and popularity lately surrounding CITs, many fund managers are wondering if this is a trend they should be a part of. From flexibility and low costs to a limited investor base, there are many key characteristics — positive and negative — that investment managers should consider before deciding.

Who Is Eligible?

Before evaluating operational and regulatory characteristics, it’s important first to understand the restrictions related to a CIT’s investor base. Similar to hedge funds and other non-registered investment products with regulatory constraints on types of investors, CIT investors are limited to certain qualified 401(k) or retirement plans. Examples of retirement plans that would not be eligible to invest include 403(b) plans, IRAs and 457(f) government plans.                                   

Regulatory Environment

One of the factors contributing to the recent popularity of CITs is their perceived favorable regulatory regime, most likely because the SEC is not a part of it. But there are other regulatory constraints to consider. Since CITs are effectively the responsibility of the sponsoring bank or trust company, they are regulated at the federal and state level in the same way. In the case of nationally chartered banks, CITs are regulated by the Office of the Comptroller of the Currency. Trust companies and their respective CITs are subject to the authority of their respective state authorities. Certain CITs also may be subject to the oversight of the Department of Labor and IRS (although CITs generally only file informational returns and do not pay taxes at the fund level).

Roles, Responsibilities and Costs

The Trustee’s role in CITs is paramount to their operations. The Trustee is considered a fiduciary under ERISA, which triggers significant responsibilities that are not to be taken lightly. In contrast to a mutual or hedge fund, the investment manager’s responsibilities and authority are often much less in CITs; however, they also have limited control over certain aspects of their operations. With regards to investment strategy, there are no specific investment restrictions or limitations within CITs; however, the Trustee does have the ultimate responsibility to monitor that the fund’s investments are in line with the stated investment objectives in the Declaration of Trust.

Due to the limited number of parties involved in CITs’ operations, the simplified regulatory framework, and the limited investor pool, expenses associated with marketing, distribution, compliance and operations of CITs are often less than that of typical mutual funds. Though, because the investor base and cost structure is more focused in the institutional market, this often results in investment management fees being paid at amounts less than might be derived from that same investment manager running their own mutual fund or hedge fund product. An argument could be made that the regulatory restrictions and higher costs of mutual funds are worth the higher investment management fees and distribution channels they provide.

Thinking It Through

Traditional mutual fund and hedge fund managers considering adding CITs to their portfolio should start the process by asking themselves the following questions:

  1. Do you have or do you intend to market to clients who are qualified retirement plans?
  2. Do you understand what would make CITs more or less attractive to a qualified retirement plan as part of their investment strategy? Are CITs even permitted as an investment in that plan’s investment criteria?
  3. Do you have a relationship with a bank or trust company that would act as Trustee?
  4. Do you understand the institutional pricing structure of CITs, and is that a good fit for your firm?

Though CITs in many ways offer significant flexibility at a lower cost than many other pooled investment vehicles, the limitations to the investor base can be seen as an impediment to the scale and growth potential of the product. When deciding whether to launch a CIT, it’s important that investment managers understand the costs and benefits of the product and carefully consider whether it is a fit for their firm.

Cohen & Company is not rendering legal, accounting or other professional advice. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts and circumstances.