Why Mutual Funds Decline in 401(k)s

Abstract

This study investigates the decline of traditional mutual funds, focusing on the substitution of mutual funds by collective investment trusts (CITs) in the 401(k) pension investment, and offers insights from both demand and supply sides. Employing several datasets, we demonstrate that CITs are adopted due to their lower fees, comparable returns, and customized nature, aligning with investor preferences sensitive to cost rather than financial transparency. Moreover, mutual fund companies with positive signals, such as past returns and ratings, are incentivized to introduce CITs to reduce auditing costs and gain market shares in 401(k). The surge of CITs in 401(k) menus has implications for pension plan governance, with better-governed plans more likely to incorporate CITs. Our findings suggest potential welfare improvements in this delegated asset management model, with investors benefiting from lower total investment costs and mutual fund companies gaining inflow stability. Overall, our research contributes to understanding the dynamics of non-mutual fund investments and their implications for financial markets and investors.

Keywords: Collective Investment Trusts (CIT), Non-Mutual Fund Investment, 401(k) Plan, Pension Plan, Trusts, Asset Allocation

JEL Classification: G11, G20, G23, G50