Managers of 529 college-savings plans have always competed on fees, but the latest round of the bidding war promises to be the most intense.
To attract and retain state contracts, wealth management companies — particularly Fidelity Investments and its primary rivals, Vanguard Group and TIAA-CREF — have been lowering fees on the plans basically since their invention. Fidelity fired the latest salvo on Tuesday, slashing its program management fees by a third to a half for its five state-sponsored 529 plans, including both its direct-sold and adviser-sold plans.
In devising the cuts, observers say, Fidelity had the industry's top prize in mind: the New York contract, the largest direct-sold 529 plan in the country, now run by Vanguard but seemingly up for grabs. The New York 529 plan can be rebid in September 2010, and all the companies that administer 529 plans are eyeing it.
"Fidelity didn't just lower its fees out of the goodness of its heart," said Andrea Feirstein of AKF Consulting Group. "I think there are two things going on: Fidelity is trying to encourage people to save money for college, since 529 college plans were an industry that the financial market meltdown of 2008 really hurt. By cutting fees across all their plans, Fidelity is also sending a message to their competitors that they are in this space to stay and they are not going to lose any market share."
While noting that "the only state coming up for bid is New York," Jeff Troutman, Fidelity's vice president for college planning, said that although the company is "not specifically looking at New York … over the course of the last 18 months or so, as states have launched RFPs, fees are certainly front and center."
For its direct-sold plans in New Hampshire, California, Massachusetts, Delaware and Arizona, Fidelity cut program-management fees in half, or 15 basis points, for its index portfolios, and a third, or 10 basis points, across its actively managed portfolios. Index-portfolio fees now range from 0.25% to 0.35% of plan assets. Actively managed portfolio fees now range from 0.59% to 1.04% of plan assets. In total, the Boston company has $14.3 billion of 529 plan assets under management.
Vanguard Group, which manages and administers plans for Nevada, New York, Iowa, Missouri, Colorado and Pennsylvania, had nearly $25 billion of 529 plan assets of nearly $25 billion through Sept. 30. The Malvern, Pa., company has already lowered expenses this year for four state 529 plans, in addition to the Arkansas plan, which features Vanguard investment products.
Jennifer Compton, a spokeswoman for TIAA-CREF, with 529 assets of $5.4 billion, said the company has cut fees significantly this year in Vermont, Minnesota and Kentucky.
The fee cuts reflect an industry in pain. Just as investors lost a quarter of their savings in the stock market in this recession, investors in 529 plans did, too. The difference, Feirstein said, is that 529 investors have a shorter time horizon. If 40-year-olds lose 25% of their 401(k), they still have 20 years to recoup those losses, but that isn't the case for a parent with, say, a junior in high school.
"With a 529 plan, you can't afford the market swings people can afford in retirement," Feirstein said. "Investors are more reluctant to step back into 529 plans than they were with a 401(k)."
For this reason, the pricing wars among wealth management companies are good for consumers, said Mark Kantrowitz, the founder and publisher of FinAid.org. "These fee cuts may convince people to invest in these plans," he said.
But not only are individual investors rethinking their 529 investments, states are seeking out companies with the lowest fees. Wealth management companies are still reeling from 2003, when Upromise, whose program Vanguard manages, undercut TIAA-CREF by 10 basis points. TIAA-CREF lost its contract with New York when Upromise offered a 529 program with fees of 0.55%, significantly lower than TIAA-CREF's 0.65%.
Joe Hurley of Savingforcollege.com explained that TIAA-CREF's loss of its New York contract was the beginning of the 529-plan pricing wars. "Anyone who wants to continue to compete in the 529 space has had to really sharpen their pencils. They have to preemptively think of what the other companies are doing," he said. "States don't like to go through the hassle of changing managers. So if they are happy with their managers and can get them to be competitive on their fees, they are likely to retain them."
Fidelity has taken this lesson to heart. It is cutting its fees across all its state plans after negotiating with Massachusetts this past spring in order to keep the state's business.
For Vanguard, the implication of Fidelity's move is that if it wants to keep its contract with New York, it may have to slash fees further. A New York resident gets a tax deduction for investing in the state plan, but Fidelity's lower fees far outweigh the value of the deduction.
Fidelity's fees are now 0.25% to 0.35% of plan assets, while Vanguard's fees for its New York contract are 0.49% — almost twice as high.
"Vanguard cannot continue to hold on to the New York business in a rebid if they are not at least going to match Fidelity's level," Feirstein said.
Linda Wolohan, a spokeswoman for Vanguard, said the company has a great relationship with New York. "We know it will be competitive, and we look forward to continuing our contract with the state."