Let me begin by saying that I appreciate that class action suits have a role in the general scheme of commerce. Class actions have helped to compensate many people who were injured by asbestos, tobacco, many medications and medical devices. Defective products can injure a large and diverse group of people. Class actions can also provide a remedial action that protects consumers and the markets going forward.

Over the years I worked briefly on one class action and on another quasi-class action suit, what was then called a private attorney general action under California law.  In both cases the defendant was in the financial services industry which, after all, is my area of expertise.

If I learned anything about class actions, it is that they can be lucrative for lawyers. They are frequently long, drawn out litigations that can be costly to defend. The plaintiff’s lawyers often put in many thousands of hours, on the come, as it were. If they win or settle, they can apply to the court for payment of their bill sometimes with a multiplier awarded by the court for their efforts on behalf of the class.

There have been many class actions brought by employees of companies over issues of wages and working conditions. More recently, there has been a spate of litigation by employees concerning the operation of their corporate 401(k) plans.

Several suits by employees of financial firms who are claiming that they have been damaged because the financial firm included its own mutual funds in the employees’ plan caught my eye.   These particular suits illustrate how foolish suing your 401(k) plan can be.

The administrators of a pension or 401(k) plan, that is those people who work for the company and who either invest the plan assets on behalf of the employees or who select the investments in which the employees can invest are fiduciaries. That has been true for at least 40 years. These new lawsuits are suggesting that these administrators have been doing it all wrong for all of that time.

Fiduciaries have special duties and are held to a high standard of commercial conduct. They are always expected to put the interests of the employees first; they are always expected to protect plan assets; they are always expected to invest plan assets prudently.

I have reviewed more than a few of the employee vs. plan administrator lawsuits.  Allow me to break down the most common allegations in the sub-set of those suits brought by employees of mutual funds and financial services companies.  In theory at least, people who work for these companies should have a pretty clear idea of what the company is doing wrong.

First, there is the allegation that the firm is self-dealing; that is the company is offering its own mutual funds for the employees to purchase. That, of course, is exactly what is occurring.  In what universe would a company be expected to direct employees to purchase a competitor’s product?  Companies are not prohibited from investing the plan’s assets in their own stock, nor should they be. A company that is in the business of managing mutual funds that are available to the general public should always be expected to offer those funds to their own employees.

Second, and most common, is the allegation that the mutual funds are too expensive; specifically that other funds that were not offered charged less.  Actually, there is no requirement for a 401(k) plan to offer only the least expensive funds.

The US Supreme Court looked at this specific issue just about a year ago and said that it was never appropriate for plan administrators to “waste” plan assets. Given that paying internal management fees cuts into the fund’s return to investors there is an argument that higher fees waste the investors’ money.

I would argue that this may be true in some, but not all cases.  If a plan offers an index mutual fund, for example, the argument can be made that all index funds from all mutual fund providers are strikingly similar and all will contain virtually the same securities, those that make up the index.  So the least expensive index mutual fund might be appropriate.

It is also true that an index ETF will usually have a lower internal management fee than an index mutual fund. An ETF is not really managed and will just track the index. If a passive investment is what you want, then an index ETF is made to order.

Most of the 401(k) plans that were defendants in the various suits offered the participants the opportunity to invest in several ETFs. No one put a gun to anyone’s head to purchase the company’s mutual funds.

If you follow the argument that the least expensive investments are the only ones that should be offered to 401(k) plan participants, then reason suggests that no index mutual fund will ever be suitable for any plan. Index ETFs are almost always less expensive and provide a very similar investment.

No court has adopted this idea, yet, but much of the discussion about what is and is not appropriate for plan participants is centered on the idea that fees and only fees matter. Someone should throw a bucket of cold water on that idea before some judge unknowingly sends the mutual fund industry to the scrap heap.

If you do want a managed fund, the question becomes, or rather should be, is the manager of the fund worth what it is getting paid? More precisely, are lower fee funds better just because they charge less?

Vanguard Funds were put up as examples in several of the cases. Vanguard has a low fee structure and a long track record with many happy and loyal investors.  There is nothing suspect about the portfolio managers or securities analysts that Vanguard employs and nothing to suggest that they are not competent professionals.

Assume for the sake of argument that JP Morgan has more analysts than Vanguard and pays them more. JP Morgan also has people on the ground doing business in every major money center in the world, every day. There is an added value to working in the market rather than just analyzing it. JP Morgan charges a higher fee to manage its mutual funds than does Vanguard.  Who is to say that JP Morgan is not worth a higher fee?

In a previous article I suggested that if I were asked to serve in a fiduciary capacity on the investment committee of a pension plan or charity, I would not hesitate to recommend mutual funds managed by Dimensional Fund Advisors.  Dimensional was founded by Eugene Fama, the 2012 Nobel Prize winner in Economics. It should cost more to have a Nobel Prize winner manage your mutual fund.

Is it a waste of the fund participant’s money to offer more expensive mutual funds if there is a demonstrable reason why the fund charges more?  Would not the fund administrator be doing the fund participants a disservice by recommending only the least expensive funds as the plaintiffs’ suggest?

Third, there is the allegation that the mutual funds lost money. Against the backdrop of a rising market, this would seem to be a problem. But in the context of these particular lawsuits the results that the investors receive is probably not relevant.

The argument here is that the fund administrator should not have selected the mutual fund in the first place. There may have been good and valid reasons to have selected the fund five or six years ago, even if the subsequent results were lousy.

A fund manager or investment advisor is expected to predict the future. That is not always easy to do.  Investment advisors and fund managers are professionals. In other fields we do not judge a professional’s competency based on their overall results.

I know that when two lawyers enter a courtroom, one of those lawyers will come out the loser, every time. That does not make the lawyer who loses a bad lawyer. It is often not a question of the lawyer’s skill. There are a great many intangibles in any case that are difficult to predict or evaluate.

Underlying all of this is the idea that investment advisers are not truly professional; that they are overpaid hacks, the majority of whom fail to manage their funds up to the level of the benchmark to which their fund is pegged.  Some of that is caused by the ebb and flow of money in and out of the fund.  Just because a lot of people invest in the fund at the end of a quarter, does not mean that there are attractive stocks on that date for the fund to buy.

Assuming one of these class actions moves forward to trial, it is probable that the fund advisor will be able to point to research done by other firms that suggested that the stocks that the fund was buying were rated as “buys” by other analysts at the same time.  So how would the fact that the fund lost money be actionable against the plan administrator?

If any of the law firms try to suggest that the plan administrator should be liable for the fund’s losses, then going forward, the only way for an administrator to protect themselves is to allow only the purchase of US Treasury bonds.  Any other investment that the plan offers the employees has a risk of loss and even US Treasury bonds may be up or down when you decide to purchase or when you reach the dates mandated for your distributions.

Most 401(k) investors lose money not because they bought the wrong investment or fund but because they failed to sell that fund when the market began to turn against them. As far as I know, none of the 401(k) plans that are the subject of these class actions offer the participants individualized advice. If the investors are never advised to sell, then the investors are guaranteed to see their portfolios decline when the market declines.

There is no penalty for employees who are prepared to say that their company makes a great product but has a lousy 401(k) plan. The penalty for employees who work at a company whose products are the same investments that are in their 401(k) plan should be obvious.

What will be the collateral effect to the mutual fund if the employees are adjudged to be correct; that the advisors to the mutual funds for whom they work are greedy and stupid.  Obviously, the mutual fund company will suffer because administrators of other 410(k) plans will stay away. Employees will be laid off and in some cases the company may merge out of business. Also the costs of the litigation and any award against the 401(k) administrators will reduce the value of the 401(k) plan. How did this win help you?

It certainly begs the question of whether the lawyers who are bringing these class actions have their client’s best interests fully in view.