ETFs:  The Next 401(k) Frontier

Since coming on the scene in the 1990s, exchange traded funds have enjoyed an enormous surge in popularity among institutional and individual investors alike. Their next stop: the over $2 trillion 401(k) marketplace.

ETF adoption in 401(k) plans is on the rise—and for good reasons. ETFs are cost efficient, transparent, and available across virtually every global asset class and market sector. From a risk management standpoint, they offer diversification and consistent asset class exposure without the potential style drift that can come with active management approaches. Below, more on why these retirement plan investment options look so promising.

Breaking down the barriers

As little as two years ago, ETFs seemed to be the proverbial square peg in the round hole of 401(k) platforms. After all, the 401(k) market was built around the mutual fund operational model of fractionalized shares and T+1 settlement. Given that ETFs trade in whole shares, settle T+3, and incur commissions, there was no clear way for third party administrators to simply “plug and play” them.

Yet these operational barriers have come down. ETFs can now be integrated seamlessly into 401(k) platforms and are available through a number of well-regarded administrators and TPA networks including SunGard, MidAtlantic and Matrix. Currently over 65 TPAs offer ETF options, and that number continues to rise.

The low fee payoff

One of the most compelling benefits of ETFs when compared with mutual fund options in qualified retirement accounts is their lower cost. The average ETF expense ratio is just 0.54%, compared to an average of 1.21% for an actively managed mutual fund, and 0.69% for an index mutual fund[1]. Over time, a difference of 50-60 basis points annually can translate into a significant impact on an investor’s account balance.

What you see is what you get

In addition to comparatively low fees, ETFs also offer a level of fee transparency unmatched by traditional 401(k) investment options. Ironically, this transparency can sometimes pose challenges for financial professionals who need to explain recordkeeping fees and other charges to clients who have never seen these itemized before (even if they’ve been paying them).

But the industry and its regulators are moving in the direction of greater transparency and disclosure. As they do, ETFs, will have a leg up on mutual funds.

A world of opportunities

Whether a plan is looking for domestic large or small cap, international or emerging markets, or something in between, there is an ETF to fit the need. In fact, there are hundreds of ETFs that can be used to build or complete a portfolio– in contrast to the relatively few index mutual funds available for the small plan market.

Do you want to lead or follow?

In many ways, ETFs are ideally suited for the 401(k) marketplace, and will become even more so as the industry’s focus on transparency and disclosure continues to sharpen. Stay ahead of the curve by considering ETFs for your clients’ 401(k) plans today.

Greg Porteous
iShares 
 

Contact: iShares401k@blackrock.com
888-450-4015
www.iShares401k.com

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