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posted: 7/31/2011 6:00 AM

Schwab to launch new low-cost index, ETF 401(k)

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  • Charles Schwab Corp. hopes to take its reputation as a low-cost retail investing business into the 401(k) arena by lowering costs and simplifying investment choices.

      Charles Schwab Corp. hopes to take its reputation as a low-cost retail investing business into the 401(k) arena by lowering costs and simplifying investment choices.
    Associated Press file photo

 
Associated Press

Losing a third of your retirement savings will get your attention. Unfortunately that's the average hit 401(k) accounts took during the Great Recession as the stock market bottomed in 2009.

That reality prompted changes in 401(k) account offerings, such as lower fees, a broader range of investment options, and improved investment advice.

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Charles Schwab Corp. is launching a new lower-cost 401(k) that doesn't have any of the traditional mutual funds you may be used to -- those you've selected in the past because of their star mutual fund managers.

Instead it's introducing 401(k) plans with only index funds next year. Index funds are mutual funds assembled to match the performance of a market index.

A second phase of the low-cost offering is a 401(k) with only exchange-traded funds, which will be rolled out later next year. ETFs also track an index like the S&P 500, but they're traded like a stock. Their price changes throughout the day as shares are bought and sold.

Index funds and ETFs are lower-cost options because they do not rely on the expertise of highly-paid fund managers to actively pick stocks. Technology has also made it possible to lower expenses.

These 401(k) accounts will not only simplify the investment options for workers, but will lower the cost by about 60 percent, said James McCool, who heads Schwab's institutional services.

The details

Schwab currently offers 401(k) accounts but ranks far behind leaders like Fidelity Investments and Vanguard Group in term of retirement assets it manages. Schwab hopes to take its reputation as a low-cost retail investing business into the 401(k) arena by lowering costs and simplifying investment choices.

McCool says the average managed mutual fund charges from 0.86 percent to 0.95 percent of account assets while the average ETF charges 0.20 percent, McCool said.

"If you follow the money, about 85 percent of the $3 trillion 401(k) industry was built on the back of more expensive and more profitable active fund management," he said. "We're not saying active fund management is bad, that's just a fact."

Fees are an important factor for investors to weigh because they can significantly cut into account returns over time.

Just a 1 percentage point difference in annual fees could cut a worker's account balance by 17 percent over a 20-year period, according to the Government Accountability Office.

McCool said making advice easier to access also is critical to an account's performance, so Schwab's new plans will include professional advice for all participants.

Industry studies have shown just 10 percent of 401(k) investors seek help to invest their money. However, participants who get advice save at twice the rate of those who don't and they have higher account balances, McCool said.

The details of how the workers will get the advice are still being worked out, but he said the idea is for it to be individualized to each participant.

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