It has long been my view that 401(k) plans are a national disgrace. They are rife with conflicts of interest between those who "advise" them and the participants who contribute to them. The investment options in the plan are chosen through a cozy, complicated and little understood process by which mutual funds make payments to brokers and insurance companies in order to get selected for a coveted place in the line-up of funds from which participants are required to make their selections. In any other context, these payments would be called bribes. In the 401(k) industry, they are known as "revenue sharing payments", justified by tortured logic intended to obscure their real purpose, which is to populate these plans with expensive, actively managed funds likely to underperform index funds of comparable risk over the long term.
The inner workings of the 401(k) system are shrouded in secrecy and mired in complexity, which is exactly the way the securities industry wants to keep it. There has been little scrutiny of how investment options are actually selected for inclusion in the plan. Justice Louis D. Brandeis famously stated that "sunlight is said to be the best of disinfectants". 401(k) plans have been operating in very dense fog.
Lawsuits challenging this unsavory process have had mixed results. Most have been dismissed as having no legal merit. Some have been quietly settled. None have gone to a trial on the merits, until now.
Tussey v. ABB, Inc ( Case No. 2:06-CV-04305-NKL) is a class action brought in the United States District Court for the Western District of Missouri, Central Division, by present and former employees of ABB, Inc, who were participants in two 401(k) plans. The plans included mutual funds managed by Fidelity Investments. Affiliates of Fidelity served as investment adviser to the mutual funds in the plan and as recordkeeper to the plans.
After a four week trial, U.S. District Judge Nanette K. Laughrey issued an extensive opinion. She found that ABB and Fidelity "... violated their fiduciary duties to the Plan when they failed to monitor recordkeeping costs, failed to negotiate rebates for the Plan from either Fidelity or other investment companies chosen to be on the PRISM platform, selected more expensive share classes for the PRISM Plan's investment platform when less expensive share classes were available, and removed the Vanguard Wellington Fund and replaced it with Fidelity's Freedom Funds."
The Court was especially critical of the process employed by the Pension Review Committee to replace the Vanguard Wellington Fund with Fidelity's Freedom Funds. The Court noted the stellar, long term track record of the Wellington Fund. It found that the "... recommendation to add the Freedom Funds to the Plan's investment platform and remove the Wellington Fund despite its excellent performance record was motivated in part by his desire to decrease the fees that ABB was paying and to maintain the appearance that the employees were not paying for the administration of the Prism Plan." So much for acting in the best interest of the plan participants.
As compensation for the misconduct of the plan fiduciaries, the Court assessed damages of $36.9 million and left open the possibility of awarding attorney fees to the plaintiffs.
I contacted ABB and was told by their representative that it "strongly disagreed" with the decision and was "considering its options, including an appeal."
Dan Solin is a senior vice president of Index Funds Advisors. He is the New York Times bestselling author of "The Smartest Investment Book You'll Ever Read," "The Smartest 401(k) Book You'll Ever Read," "The Smartest Retirement Book You'll Ever Read" and "The Smartest Portfolio You'll Ever Own." His new book is "The Smartest Money Book You'll Ever Read." The views set forth in this blog are the opinions of the author alone and may not represent the views of any firm or entity with whom he is affiliated. The data, information, and content on this blog are for information, education, and non-commercial purposes only. Returns from index funds do not represent the performance of any investment advisory firm. The information on this blog does not involve the rendering of personalized investment advice and is limited to the dissemination of opinions on investing. No reader should construe these opinions as an offer of advisory services. Readers who require investment advice should retain the services of a competent investment professional. The information on this blog is not an offer to buy or sell, or a solicitation of any offer to buy or sell any securities or class of securities mentioned herein. Furthermore, the information on this blog should not be construed as an offer of advisory services. Please note that the author does not recommend specific securities nor is he responsible for comments made by persons posting on this blog.