From the March 2007 issue of Boomer Market Advisor • Subscribe!

The managed account advantage

For evidence of how quickly things can change in the financial marketplace, look no further than managed accounts. In January 2004, TowerGroup, a Needham, Mass.-based research firm, projected assets in separately managed accounts would exceed $1 trillion by 2007. But by the summer of 2006, the Money Management Institute adjusted this forecast downward. It now expects total SMA assets to surpass $1 trillion by 2009 and $1.5 trillion by 2011. Still, assets under management in separately managed accounts grew $32 billion, or 4 percent, to $806 billion in the third quarter of 2006.

One reason?

"We're starting to see more growth in unified managed accounts," says Matt Schott, research director for the brokerage and wealth management practice at TowerGroup.

UMAs are broader, open-architecture accounts that house multiple investment products, including SMAs, exchange-traded funds, mutual funds and alternative investments. An overlay manager oversees the UMA account, giving it an extra layer of management over the traditional standalone SMA. Though separately managed accounts remain popular, market observers attribute much of their growth to their inclusion in these broader UMA platform offerings.

Boston-based consulting firm Cerruli Associates reports that from the fourth quarter of 2005 to fourth quarter 2006, UMA programs grew in assets by more than 37 percent.

"With the UMA, what we're seeing is the separately managed account growing up," says Steve Gresham, executive vice president at Phoenix Investment Partners, a money management firm in Hartford, Conn.

Managed account pioneer Chuck Widger agrees. The chairman and CEO of Brinker Capital, an investment management firm in Berwyn, Penn., says the moderating of SMA growth expectations and the rise of UMAs indicate the managed account market is evolving, whereby SMAs are no longer the only product of this type available.

While the SMA as a stand-alone product still appeals to high-net-worth investors for whom customization and tax-minimization are paramount, others are gravitating to the potentially more diverse, more accessible and less restrictive UMA.

"I'm convinced that for investors with $100,000 to $500,000 to invest, the most appropriate thing is a mutual fund advisory program," Widger says. "For people in the $500,000 to $1.5 million or $2 million range, the most appropriate solution is the unified managed account. For the $2 million-plus type of investor, the most appropriate solution might be a UMA but more likely is a separately managed account."

The response to Brinker's UMA program has been strong. Lockwood, another Pennsylvania-based money management firm owned by clearing and custodial firm Pershing LLC, has seen more than $1 billion in assets flow into the UMA program it introduced less than three years ago.

"Looking at pure separately managed accounts, I expect some money is being diverted into unified managed accounts, multiple-discipline accounts and other derivatives of SMAs," says Lockwood President and MMI Chairman Len Reinhart. "Even so, separately managed accounts aren't going away. People with $500,000 or $600,000 probably aren't getting the total diversification they need from an SMA. For those people in the lower end of the most affluent market, a UMA might be best. But people in the $4 million-and-up range, they won't necessarily want a pre-packaged UMA. They'll want the more customized approach offered by an SMA."

The growing popularity of UMAs is prompting a concerted effort among

SMA sponsors to address some of the shortcomings that could hamper separate account competitiveness.

"We're putting a lot of muscle behind our newer managed account solutions, but also behind our separately managed account products," Reinhart says.

According to Schott, better communication along the SMA value chain (from individual money managers to sponsors to advisors to investors) must happen to bolster their appeal. A lack of standardized account management, communication and data exchange processes continue to hamper SMAs.

"It's very much a many-to-many networking challenge," Schott says. "Each sponsor may have as many as 100 different money managers they're working with, and each money manager may have 10, 20 or more sponsors they're dealing with. You can see how aggregating data and keeping track of accounts can be problematic."

Communication snags, plus a lack of account data transparency and accessibility down to the end-use level are "why separately managed accounts are not a household name like mutual funds are," Reinhart agrees.

Part of this communication problem could be corrected, says Reinhart, if advisors and investors could turn to a reputable, reliable independent source for SMA research and ratings. And soon, they may be able to do just that.

"Someone needs to step up and un-bundle the research from the product," he says. "Mutual funds have research providers like Morningstar, but there's really nothing like that in the separately managed accounts world. Each sponsor does its own research, so you get a situation where research reports might be similar but different."

Having a third-party source for ratings and research -- a household name with standardized money manager ratings and style research -- would make SMAs a more transparent, user-friendly instrument. While Reinhart concedes that tracking money manager performance with SMAs would be more difficult than it is with mutual funds, it's not impossible. And he suggests Lockwood may be ready to fill the void.

"It could be us," he says. "We've seriously thought about unbundling our research."

In the meantime, both MMI and Depository Trust & Clearing Corp. are working separately to develop more uniform and streamlined processes in the managed account space.

MMI's initiative, "Separately Managed Accounts Operations Communications and Data Standards," provides a uniform set of operating and communications process flows and message specifications. With names such as SmithBarney and CitiGroup willing to embrace the measure, the effort is gaining momentum, Schott says.

Increasing operational efficiencies not only will make SMAs more user-friendly from the advisor perspective, it also will likely translate to lower operational costs, which can be passed directly to clients, strengthening the product's value proposition.

Sponsors also are working to strengthen SMA design. Among advanced designs that appeal to baby boomers, says Reinhart, is a leveraged SMA that works like a hedge fund, with a higher leverage ratio of 1-to-5 or 2-to-1. Volatility is higher, but theoretically, so to is upside potential.

Whether improvements allow SMAs to keep pace with upstart UMAs remains to be seen. But to Reinhart it's a non-issue. "It's all managed money to us."

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