Morningstar Names Best 529 College-Savings Plans for 2013

Morningstar's analysts have identified nine 529 college-savings plans as the nation's best, awarding them Gold and Silver Morningstar Analyst Ratings for 2013. 

These top medals signal that Morningstar has the highest conviction in the plans' abilities to serve college savers well over the long term. In 2012, eight plans were awarded Gold and Silver Morningstar Analyst Ratings, which are forward-looking, qualitative ratings issued annually.

The Gold and Silver medalists represent direct-sold and advisor-sold plans, all of which exhibit strong menus of investment options, solid management, and reasonable fees. The 23 plans awarded Bronze medals have similar characteristics, but Morningstar's analysts have less confidence that they'll outperform their peers on a risk-adjusted basis over a full market cycle.

All told, Morningstar awarded medals to 32 plans in 2013, up from 27 in 2012. The increase in the number of medalist plans reflects significant improvements to 529 plans. Plans that improved their ratings in 2013 increased the likelihood of college savers' success by upgrading the quality of the plans' underlying investments, cutting expenses, and/or improving state tax benefits.

Similarly, very few 529 plans still include options that have performed poorly due to weak management or extremely high fees. As such, only four of the 64 plans rated earned Negative ratings, with 28 plans earning Neutral ratings. Morningstar did not rate 21 of the industry's smallest plans.

2013 Morningstar Medalist 529 College-Savings Plans

 

Gold Medalists
All four of the 2013 Gold medalist plans are longtime favorites of Morningstar analysts. Two feature T. Rowe Price's topnotch investments, Maryland College Investment Plan and Alaska's T. Rowe Price College Savings Plan. The plans, which charge fair fees for actively managed strategies, were largely unchanged in the past year.

Two of the Gold medalists feature passive investments from Vanguard. Utah Educational Savings Plan, a direct-sold plan, includes primarily Vanguard indexes as well as some newly added strategies from Dimensional Fund Advisors. Utah Educational Savings Plan is one of more than a dozen direct-sold plans featuring Vanguard investments, but it has a strong track record of improvements to the plan, not the least of which is keeping expense ratios among the lowest in the industry. The new strategies in the plan further diversify its asset allocation and expand the menu of static-allocation choices.

The second Gold-rated plan with Vanguard investments is the firm's flagship, The Vanguard 529 College Savings Plan of Nevada. It also is a leader at keeping costs low: Last week, Nevada approved price cuts on the plan's investment options, narrowing the gap with other low-cost indexers.

In both the Utah and Vanguard plans, college savers have a number of low-cost age-based tracks to choose from that vary their asset allocation based on the savers' risk profiles. A primary difference between the two Gold-rated plans is the minimum investment. While Vanguard requires $3,000 to get going in its namesake plan, Utah's offering has no enrollment minimum.

Silver Medalists
The plans earning Silver medals are all very strong options. Virginia's CollegeAmerica, the nation's largest 529 plan at $41 billion of assets, is advisor-sold and managed by American Funds. The firm's highly regarded actively managed funds are available as stand-alone options as well as combined in a set of newer age-based and static-allocation options. The plan's fees are near the bottom of the advisor-sold universe, which gives this plan a meaningful performance edge over the long term.

Arkansas' iShares 529 Plan is another Silver medalist with inexpensive advisor-sold options. This plan includes only exchange-traded funds, which replicate indexes yet trade like individual stocks. Several other plans also include ETFs, or have plans to add them to their menus, but the iShares lineup is robust and reasonably priced, giving advisors ample choice when constructing custom portfolios for clients.

Two other Silver medalists, CollegeAdvantage 529 Savings Plan of Ohio and Michigan Education Savings Program, are both direct-sold plans with solid, inexpensive options. CollegeAdvantage mixes managers and investment styles from a number of firms, giving college savers a nice variety of options to consider, all at a fair price, along with a set of competitively priced Vanguard index options. Meanwhile, the Michigan plan offers mostly indexed options run by TIAA-CREF, which are among the cheapest in the nation.

The newest addition to the Silver class is ScholarShare College Savings Plan of California, which was rated Bronze in 2012. This plan, also run by TIAA-CREF, improved its already-strong investment lineup that features managers from a variety of firms. ScholarShare also has plans in place to slash its fees next month, particularly on its age-based indexed options. These moves give Morningstar more confidence in the plan's ability to perform strongly going forward and warrant a higher medal rating.

Bronze Medalists
The list of plans earning Bronze medals got longer in 2013, reflecting the 529 industry's steady improvements. All of the Bronze-rated plans have well-executed strategies at a fair price. Often what separates a Bronze plan from a Neutral plan is the state's tax benefits. That was a contributing factor for two newcomers to the Bronze ranking, NEST Direct College Savings Plan and NEST Advisor College Savings Plan. The plans' sponsoring state, Nebraska, recently doubled the state income tax deduction, maxing out at $10,000 for couples filing jointly. The plans also swapped out some lackluster investment choices for better ones. These changes together improve the likelihood of college savers' success and upped the plans' ratings from Neutral.

The other newly minted Bronze plans are four direct-sold plans from Fidelity in Arizona, Delaware, Massachusetts, and New Hampshire. All four plans, previously rated Neutral, moved up after the plans lowered fees on their age-based indexed tracks. In addition, a steady stream of positive changes to the firm as a whole prompted a recent upgrade of Fidelity's Morningstar Stewardship Grade, which also contributed to the plans' improved ratings.

Neutral Ratings
The most-issued Morningstar Analyst Rating for 2013 is Neutral. The 28 plans earning this rating are not seriously flawed, but in Morningstar's view, they're unlikely to outperform over a full market cycle. College savers who choose a Neutral-rated plan should expect returns near their peer-group norms, which is a reasonable outcome. But for those in states with no local tax benefits, it may be worth upgrading to a top-rated plan. 

Off the Mark
Morningstar issued Negative Analyst Ratings to just four plans in 2013. Rhode Island's 529 plans, Collegeboundfund, which is sold through advisors, and Collegeboundfund Direct, have some improvements on the drawing board that have not yet been implemented. Both plans predominantly feature investments from AllianceBernstein, which have struggled on the performance side. The direct-sold plan does contain a handful of sensible Vanguard index funds available only to Rhode Island residents, but the plans' age-based track--popular among do-it-yourselfers--is run by AllianceBernstein.

Elsewhere, Minnesota College Savings Plan remains on the Negative list for its too-high fees. To be sure, the plan's indexed investments from TIAA-CREF are structurally sound, but they cost too much; investors can obtain very similar investment options managed by TIAA-CREF--or others-- for much cheaper elsewhere, and Minnesotans have no tax incentive benefit to induce them to stay here. The plan certainly looked stronger when Minnesota offered college savers a grant for their participation, but the state withdrew that benefit in 2010.

Another Negative plan held back by high fees is Kansas' Schwab 529 College Savings Plan. This plan, which is managed by American Century but distributed and branded by Schwab, has some well-respected strategies like Gold-rated  PIMCO Total Return (PTTRX) as well as a new indexed age-based track. But the expense ratios on the options are high relative to other direct-sold plans, handicapping this plan's performance relative to peers.

Analyst Rating Inputs
Since 2012, ratings for 529 plans use the same scale as the Morningstar Analyst Rating for funds. Both Analyst Rating methodologies consider the same five factors to arrive at the final rating, though the 529 ratings reflect the quality of the entire plan--not a single investment, as is the case for the fund rating. To arrive at an Analyst Rating for 529 plans, analysts consider:

• People--Are the managers and researchers directing the plan's investments skilled and well-supported?
• Process--Are the strategies sensible and are past successes likely to be repeated? Are the asset-allocation and fund selection for the age-based options based on solid research and implemented well?
• Parent--Is the program manager a good caretaker of college savers' capital? Is the state managing the plan professionally?
• Performance—Has the plan delivered strong risk-adjusted performance, and is it likely to continue?
• Price--Are the investment options a good value? 

In 2011, the Morningstar Analyst Rating for 529 plans employed the same methodology, but the overall rating was expressed as Top, Above Average, Average, Below Average, and Bottom.