COLLEGE SAVINGS 101

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Benchmarking the 529 industry
http://www.savingforcollege.com/articles/benchmarking-the-529-industry

Posted: 2014-04-21

by Joseph Hurley

Financial Professional Content

Investors, advisors, and the financial media all want to know how well 529 plans, as a group, are performing. In other words, are 529 plans delivering solid investment returns?

We've taken a look into this question by comparing median performance across all 529 savings plans to broad industry benchmarks. We conclude that 529 plans on average have provided good, but not exceptional, investment returns on a pre-tax basis. Notably, the tax benefits of a 529 plan make them a compelling investment when compared to taxable alternatives.

Our methodology, results, and analysis are summarized below.

Methodology

We determined average investment performance of 529 plans as of December 31, 2013 in seven different asset-allocation categories. These are the same asset-allocation categories used in our quarterly 529 Plan Performance Rankings. In fact, we utilized the same exact set of 529 plan investment portfolios.

This table shows the asset-allocation categories and the number of 529 portfolios used in scoring.

Asset-allocation Category Number of 529 portfolios
  1-Yr 3-Yr 5-Yr 10-Yr
100% Equity 174 152 118 49
80% Equity 134 112 94 31
60% Equity 107 89 68 28
40% Equity 91 66 54 16
20% Equity 99 82 63 29
100% Fixed Income 222 172 110 42
100% Short Term 99 81 57 27

We then compared the average (median) investment performance of 529 plans—as determined for 1-year, 3-year, 5-year, and 10-year periods—to the performance of broad industry benchmarks over those same periods.

For the first six asset-allocation categories, the equity portion was benchmarked to an 80/20 blend of the Russell 3000 Index and the MSCI EAFE Index, and the fixed-income portion was benchmarked to the Barclays Capital U.S. Aggregate Index. The 100% Short Term category was benchmarked to the Citigroup 3-month Treasury Bill Index.

All investment returns for 529 plans were the actual net returns reported by the plans. In other words, they reflected all asset-based investment and program management fees. If a portfolio was part of an advisor-sold 529 plans, we used net asset value (NAV) performance to exclude sales charges.

Results

Across six asset-allocation categories and all measuring periods, median 529 returns fell short of benchmark returns. Only within the 100% Short Term category did 529 plans beat the benchmark. Within each category, however, some portfolios provided returns well above the benchmark, while others fell far short. The wide range of returns is due primarily to the different compositions of portfolios within any asset-allocation category (e.g. domestic vs. international, bond duration and risk, etc.)

Asset-allocation Category   Average Annual Return
    1-Yr 3-Yr 5-Yr 10-Yr
100% Equity 529 plan 29.05% 13.13% 16.98% 7.02%
  Benchmark 31.50% 14.72% 17.56% 7.78%
80% Equity 529 plan 21.02% 10.90% 14.45% 6.83%
  Benchmark 24.80% 12.43% 14.94% 7.14%
60% Equity 529 plan 14.85% 9.02% 12.12% 6.35%
  Benchmark 18.09% 10.14% 12.31% 6.49%
40% Equity 529 plan 8.63% 6.85% 9.39% 5.71%
  Benchmark 11.39% 7.85% 9.69% 5.84%
20% Equity 529 plan 4.06% 4.53% 6.67% 4.52%
  Benchmark 4.69% 5.55% 7.06% 5.20%
100% Fixed Income 529 plan -2.14% 2.82% 4.28% 3.76%
  Benchmark -2.01% 3.26% 4.44% 4.55%
100% Short Term 529 plan 0.08% 0.08% 0.17% 2.76%
  Benchmark 0.05% 0.07% 0.10% 1.59%

After-tax Returns

Of course, the broad market indexes used for benchmarking have no expenses associated with them. In addition, they do not address the income-tax benefits of a 529 plan.

To provide a more realistic comparison, we adjusted the benchmark returns to assume a 15-percent capital gains tax on the annual returns within the equity portion of each asset-allocation category, and a 35-percent ordinary income tax on the annual returns within the fixed-income portion. (Granted, bonds can produce gains and losses along with ordinary income.)

On an "after-tax" basis, 529 plans beat the benchmark in every asset-allocation category and over every time period that generated a positive return.

Asset-allocation Category   Average Annual Return
    1-Yr 3-Yr 5-Yr 10-Yr
100% Equity 529 plan 29.05% 13.13% 16.98% 7.02%
  Benchmark 26.77% 12.52% 14.93% 6.61%
80% Equity 529 plan 21.02% 10.90% 14.45% 6.83%
  Benchmark 20.09% 10.07% 12.10% 5.78%
60% Equity 529 plan 14.85% 9.02% 12.12% 6.35%
  Benchmark 13.98% 7.81% 9.48% 5.00%
40% Equity 529 plan 8.63% 6.85% 9.39% 5.71%
  Benchmark 8.32% 5.73% 7.07% 4.27%
20% Equity 529 plan 4.06% 4.53% 6.67% 4.52%
  Benchmark 3.24 3.83% 4.87% 3.59%
100% Fixed Income 529 plan -2.14% 2.82% 4.28% 3.76%
  Benchmark -1.31% 2.12% 2.89% 2.96%
100% Short Term 529 plan 0.08% 0.08% 0.17% 2.76%
  Benchmark 0.03% 0.05% 0.07% 1.03%

Conclusion

The managers of 529 plans are doing a good job investing funds for plan participants. Some of the differences between average plan performance and benchmark performance can be attributed to the plan-level management fees as well as the expenses associated with the underlying investments (typically mutual funds and exchange-traded funds). The tax benefits associated with 529 plans make them a compelling choice for college savers with moderate to high income.

Financial Professional Content

Investors, advisors, and the financial media all want to know how well 529 plans, as a group, are performing. In other words, are 529 plans delivering solid investment returns?

We've taken a look into this question by comparing median performance across all 529 savings plans to broad industry benchmarks. We conclude that 529 plans on average have provided good, but not exceptional, investment returns on a pre-tax basis. Notably, the tax benefits of a 529 plan make them a compelling investment when compared to taxable alternatives.

Our methodology, results, and analysis are summarized below.

Methodology

We determined average investment performance of 529 plans as of December 31, 2013 in seven different asset-allocation categories. These are the same asset-allocation categories used in our quarterly 529 Plan Performance Rankings. In fact, we utilized the same exact set of 529 plan investment portfolios.

This table shows the asset-allocation categories and the number of 529 portfolios used in scoring.

Asset-allocation Category Number of 529 portfolios
  1-Yr 3-Yr 5-Yr 10-Yr
100% Equity 174 152 118 49
80% Equity 134 112 94 31
60% Equity 107 89 68 28
40% Equity 91 66 54 16
20% Equity 99 82 63 29
100% Fixed Income 222 172 110 42
100% Short Term 99 81 57 27

We then compared the average (median) investment performance of 529 plans—as determined for 1-year, 3-year, 5-year, and 10-year periods—to the performance of broad industry benchmarks over those same periods.

For the first six asset-allocation categories, the equity portion was benchmarked to an 80/20 blend of the Russell 3000 Index and the MSCI EAFE Index, and the fixed-income portion was benchmarked to the Barclays Capital U.S. Aggregate Index. The 100% Short Term category was benchmarked to the Citigroup 3-month Treasury Bill Index.

All investment returns for 529 plans were the actual net returns reported by the plans. In other words, they reflected all asset-based investment and program management fees. If a portfolio was part of an advisor-sold 529 plans, we used net asset value (NAV) performance to exclude sales charges.

Results

Across six asset-allocation categories and all measuring periods, median 529 returns fell short of benchmark returns. Only within the 100% Short Term category did 529 plans beat the benchmark. Within each category, however, some portfolios provided returns well above the benchmark, while others fell far short. The wide range of returns is due primarily to the different compositions of portfolios within any asset-allocation category (e.g. domestic vs. international, bond duration and risk, etc.)

Asset-allocation Category   Average Annual Return
    1-Yr 3-Yr 5-Yr 10-Yr
100% Equity 529 plan 29.05% 13.13% 16.98% 7.02%
  Benchmark 31.50% 14.72% 17.56% 7.78%
80% Equity 529 plan 21.02% 10.90% 14.45% 6.83%
  Benchmark 24.80% 12.43% 14.94% 7.14%
60% Equity 529 plan 14.85% 9.02% 12.12% 6.35%
  Benchmark 18.09% 10.14% 12.31% 6.49%
40% Equity 529 plan 8.63% 6.85% 9.39% 5.71%
  Benchmark 11.39% 7.85% 9.69% 5.84%
20% Equity 529 plan 4.06% 4.53% 6.67% 4.52%
  Benchmark 4.69% 5.55% 7.06% 5.20%
100% Fixed Income 529 plan -2.14% 2.82% 4.28% 3.76%
  Benchmark -2.01% 3.26% 4.44% 4.55%
100% Short Term 529 plan 0.08% 0.08% 0.17% 2.76%
  Benchmark 0.05% 0.07% 0.10% 1.59%

After-tax Returns

Of course, the broad market indexes used for benchmarking have no expenses associated with them. In addition, they do not address the income-tax benefits of a 529 plan.

To provide a more realistic comparison, we adjusted the benchmark returns to assume a 15-percent capital gains tax on the annual returns within the equity portion of each asset-allocation category, and a 35-percent ordinary income tax on the annual returns within the fixed-income portion. (Granted, bonds can produce gains and losses along with ordinary income.)

On an "after-tax" basis, 529 plans beat the benchmark in every asset-allocation category and over every time period that generated a positive return.

Asset-allocation Category   Average Annual Return
    1-Yr 3-Yr 5-Yr 10-Yr
100% Equity 529 plan 29.05% 13.13% 16.98% 7.02%
  Benchmark 26.77% 12.52% 14.93% 6.61%
80% Equity 529 plan 21.02% 10.90% 14.45% 6.83%
  Benchmark 20.09% 10.07% 12.10% 5.78%
60% Equity 529 plan 14.85% 9.02% 12.12% 6.35%
  Benchmark 13.98% 7.81% 9.48% 5.00%
40% Equity 529 plan 8.63% 6.85% 9.39% 5.71%
  Benchmark 8.32% 5.73% 7.07% 4.27%
20% Equity 529 plan 4.06% 4.53% 6.67% 4.52%
  Benchmark 3.24 3.83% 4.87% 3.59%
100% Fixed Income 529 plan -2.14% 2.82% 4.28% 3.76%
  Benchmark -1.31% 2.12% 2.89% 2.96%
100% Short Term 529 plan 0.08% 0.08% 0.17% 2.76%
  Benchmark 0.03% 0.05% 0.07% 1.03%

Conclusion

The managers of 529 plans are doing a good job investing funds for plan participants. Some of the differences between average plan performance and benchmark performance can be attributed to the plan-level management fees as well as the expenses associated with the underlying investments (typically mutual funds and exchange-traded funds). The tax benefits associated with 529 plans make them a compelling choice for college savers with moderate to high income.

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