Judge in Putnam 401(k) suit deals potential setback to plaintiffs using Vanguard as fee benchmark

The lawsuit is the first among similar cases to proceed to hearings on summary judgment, and may be telling as to how future judges rule

Apr 6, 2017 @ 2:00 pm

By Greg Iacurci

+ Zoom
(Bloomberg News)

A federal judge has seemingly dealt a blow to plaintiffs bringing claims against financial services companies for excessive retirement plan fees, following a recent ruling in a self-dealing lawsuit involving Putnam Investments' 401(k) plan.

Specifically, the judge shot down arguments that Putnam received excessive management fees from their proprietary mutual funds, saying plaintiffs' comparison of Putnam fund fees to those of Vanguard Group's passively managed funds was "flawed."

Similar self-dealing lawsuits against fund managers have proliferated of late, often using Vanguard and other recognized indexers as a barometer of acceptable low-cost funds for a 401(k) plan.

This Putnam ruling, made by William G. Young of the U.S. District Court for the District of Massachusetts, points to a potentially difficult road ahead for plaintiffs, those familiar with such 401(k) litigation said.

"To the extent that the debate over Vanguard funds as a benchmark continues — and I think it will — plaintiffs are going to have their work cut out for them," said Duane Thompson, senior policy analyst, fi360 Inc., a fiduciary consulting firm.

Originally brought in November 2015, the case, Brotherston et al v. Putnam Investment, LLC et al, was the first among similar class-action cases to proceed to hearings on summary judgment, Mr. Thompson said.

Several other companies, such as Jackson National Life Insurance Co., T. Rowe Price, JPMorgan Chase & Co., Neuberger Berman and American Century Investments, have since been sued by current or former employees for using in-house funds in their 401(k)s.

Plaintiffs in the Putnam case relied on expert testimony from Dr. Steve Pomerantz, a litigation and financial consultant, whose report compared Putnam's average fund fees to Vanguard's passive funds, according to Judge Young's court order, filed March 30.

"Vanguard is a low-cost mutual fund provider operating index funds 'at-cost,'" the judge said. "Putnam mutual funds operate for profit and include both index and actively managed investment. Dr. Pomerantz's analysis thus compares apples and oranges."

Expenses of Putnam's mutual funds, the primary investment option in the company 401(k), range roughly from 0.25% to 1.65%, which the judge found to be reasonable given the presented evidence, according to the court filing.

"This court said the fees paid don't have to be the lowest possible, and if you're going to do fee comparisons they ought to be apples to apples," said Charles Humphrey, principal at an eponymous law firm. "Comparing actively managed to index funds therefore is not cool, if it ever was."

The lesson for plaintiffs here, said Mr. Humphrey, a former attorney for the Department of Labor and Internal Revenue Service, is that fees "ought to be significant outliers in comparison to the normal range for similar funds" for this type of claim to be successful.

"What is significant is in the eye of the beholder," he added.

Lawsuits against financial services companies for use of in-house funds in their retirement plans come against a backdrop of burgeoning 401(k) fee litigation in the broader marketplace.

Many of those have targeted large employers such as Lockheed Martin, Boeing and General Dynamics.

While plaintiffs have been able to win their arguments or achieve settlements in those lawsuits, they often focus on excessive fees in relation to a higher-cost share class of a mutual fund being selected over a lower-cost alternative for the same fund, rather than comparing Fund A to Fund B, Mr. Thompson said.

Cases such as Putnam's, though, will depend partly on yet-unseen expert testimony, Mr. Thompson explained. That could help plaintiffs prevail unlike in the Putnam case.

"These cases obviously get into the weeds and who knows how deep into active versus passive or sub-asset classes the experts will go looking for the appropriate benchmark," he said.

Mr. Young only ruled for defendants on two counts in the lawsuit. Several other counts have yet to receive judgment.


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