A closer look at managed accounts

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August 9, 2017

OPINION: Managed accounts are surging in popularity, but an investment structure – no matter how beneficial – is not an investment itself.

It pays to spend some time understanding what you’re really getting, particularly as the industry has done a great job in confusing participants about what a managed account actually is.

For those still grappling with all the acronyms out there, a managed account is effectively a share or balanced fund without the ‘fund’ wrapper.

While people often refer to them as managed discretionary accounts (MDAs), this is just an extension to a licence that allows someone to operate with discretion. It’s effectively a professionally managed portfolio that comes with all the benefits of an outsourced fund structure without many of the drawbacks.

Instead of having their assets pooled together in a single trust, clients own the underlying assets themselves, and the manager on the account buys and sells those assets on their behalf (the same way they would in a fund). A managed account portfolio can theoretically be comprised of any type of assets made available on the platform.

It’s a key reason that the proportion of advisers using managed accounts has jumped to 26 per cent from 16 per cent in 2012 (and a further 20 per cent intend using them in the next 12 months) according to the latest NAB/ Investment Trends Planner Direct Equities and Managed Accounts Report.

The specific managed account label doesn’t matter – whether MDA, SMA, IMA (and others) – as much as the manager’s blend of operational and investment expertise. There are differences between each acronym, but what they have in common is that they involve a portfolio of assets managed by someone on the client’s behalf.

The structural benefits are clear but whether this portfolio is best managed by an external investment manager or the dealer group/practice itself is a key question.

The perils of do it yourself

When it comes to building and managing a managed account, we have seen everything from practices who want to outsource the function completely (to investment firms and consultants such as ourselves) through to practices who want to run the portfolios themselves without any external input.

While choosing to manage client portfolios in-house (not all platforms allow it) gives practices a greater proportion of total client fees in the short-term, it is not a decision to be taken lightly given it exacerbates a number of long-term risks.

First of all, as all advisers know, behaviour matters more than returns. While it’s important to invest clients’ capital appropriately, unless the client is able to stick to their financial plan the investment returns become irrelevant. Therefore personal advice is more important than the investment component of the overall advice process.

Second, prices aren’t low in any asset class around the world. Asset prices range from fair value by historical standards through to extremely expensive. This means future returns for the next decade are very unlikely to be strong – they’re more likely to be average to low.

This is a common view put forward by most investment professionals trying to set expectations, but why should it matter here? Dealer groups and practices considering running a managed account as the investment manager are more likely to face return headwinds in the future rather than the tailwinds we’ve experienced from the last nine years of quantitative easing.

Lastly, if we’re in a low return environment, behaviour is going to matter more over the next decade compared to the past decade. So why would you want to move your client proposition from the area that is most valuable towards an area that is more difficult to eke out value?

There’s an inherent conflict of interest if a dealer group or practice delivers sub-par investment performance: firing yourself is not easy. Dealer groups and practices managing money in-house should be prepared to justify their choice to the corporate regulator against external manager fees, track records and risk management capabilities.

One might ask then why Innova operate in investment management, but we have a particular focus on risk management to help advisers manage their clients’ investment behaviour. It is a very different focus to typical strategic asset allocation model portfolios and one that requires substantial resources.

In the second part of this series, we will delve into some key areas to assess when considering an outsourced investment manager or consultant including operational risk, flexibility, advice, fees and investment strategies.