Separately managed accounts are gaining traction with advisors crafting portfolios for clients. By the end of 2004, managed accounts (many people use “separate” and “managed” interchangeably) contained $576 billion, up 50% from only two years ago. As managed accounts have grown in importance, so has the need for information about them. That is why Investment Advisor has teamed up with two highly respected names in investment research and analysis–Standard & Poor’s and Prima Capital–on this, the first U.S. Separately Managed Account Awards. Together, we have identified the best managers of the best separate account products on the street.
Managed accounts have a storied history: They were born at the old E.F. Hutton in the 1980s and remain a wirehouse fixture to this day. Indeed, the Money Management Institute, a trade group, estimates that six major brokerage firms–Hutton’s successor, Smith Barney, along with Merrill Lynch, Morgan Stanley, UBS, Wachovia, and A.G. Edwards–still hold some 70% of managed account assets. Other channels are getting in on the act now, however. MMI Executive Director Christopher Davis observes that managed account assets are growing rapidly at banks, and Chip Roame, managing principal at Tiburon Strategic Advisors in California, notes that 7% of fee-only advisors deploy managed accounts in their practices. These advisors, adds Davis, are notable for having accounts that are larger than industry averages.
Advisors use managed accounts, sometimes as a substitute for mutual funds, for a number of reasons. They may fill gaps in a portfolio that a mutual or exchange traded fund can’t easily occupy, or offer bespoke tailoring–a manager could, say, accommodate an advisor who desires exposure to mid-cap equities but wants to underweight financial issues, a mainstay of mid-cap indexes, at a time of rising interest rates. Tax efficiency is another plus. While many mutual funds boast low turnover and modest capital gains distributions, a managed account may offer the same benefits plus the ability to selectively harvest losses to offset gains a client may have earned elsewhere. There’s also the cachet factor: Not available to the general public, separate accounts are generally offered with minimum investments of $100,000 to $250,000 and up. Many separate account managers, especially those at smaller firms, are also available to advisors and clients for questions on their strategies and goals. Just try getting hold of a mutual fund manager.
For all the benefits of managed accounts, however, selecting the right products from the hundreds on the market remains a hassle for the busy advisor when compared with the ease of picking mutual funds. That’s a pity. Phil Edwards, managing director of Standard & Poor’s Investment Services, points out that “there are an awful lot of good separate account managers who don’t offer mutual funds,” especially in the small- and mid-cap categories.
To be sure, wirehouse and regional brokers have legions of analysts performing due diligence on asset managers. For independent advisors, though, especially those who don’t use turnkey asset management programs available through various broker/dealers, poring over databases to make the best manager selection can be a tiresome task.
That is where the SMA Awards come in. Focusing on products that are available to retail investors, as opposed to those aimed primarily at corporate retirement plans and other large institutions, we combed through the deep database of SMA Evaluator (www.sma-awards.standardandpoors.com), a research service provided by Prima and S&P. Our Awards Committee–Prima President Gib Watson, along with Senior Analyst Nathan Behan and Geoffrey Selzer, Prima’s director of professional services; S&P’s Edwards; and IA Editorial Director William Glasgall–then selected seven asset managers as our first U.S. SMA Award winners.
The winners are a diverse lot, including large and mid-sized firms as well as a number of boutiques. They include Eagle Global Advisors, ICM Asset Management, New Amsterdam Partners, Nuveen Asset Management, Thornburg Investment Management, Smithbridge Asset Management, and WCM Investment Management. The honors cover the winner’s management of specific equity and fixed-income products as well as a special award for tax efficiency. You’ll find profiles of the winners beginning on page 78.
Two things the SMA Award winners have in common are consistent risk-adjusted investment performance as well as a willingness to put their firms’ resources both into running separate accounts and delivering superior service to their clients. A third attribute the seven award winners share is plenty of experience. A product has to be on the market for at least three years to have its manager qualify for consideration for the SMA Awards. That was no problem for our winners: The products they manage have been around at least since 1997, giving them time to show their mettle through some of the most volatile markets in recent history. One of the award-winning separate account products, New Amsterdam’s Mid-Cap portfolio, made its debut several months before the 1987 stock market collapse, and Thornburg’s Bill Fries has been assembling his brand of value portfolios for more than three decades, picking up plaudits from Morningstar and Business Week magazine for the mutual funds he manages.
Experience counts in another way as well. Unlike many manager evaluation systems that simply look at risk-adjusted performance over set periods, say, three or five years, we looked at a managed account product’s history since the day it came to market. This is only one of the criteria we used in picking the SMA Award winners. Let’s take a moment to review how we made our selections, all of which are based on Prima’s data through December 31, 2004.
How We Made Our Picks
We started with the approximately 620 separate account products currently listed in the SMA Evaluator database. We also invited managers that are not listed in the database to submit reports on their products. To ensure that our judging process was focused on separate accounts aimed at the retail investor, we excluded products that are closed to new investors or have account minimums above $250,000. We also screened out managed accounts run by individual stockbrokers for small groups of clients as well as proprietary products with limited or no distribution outside the parent’s firm. While there are some 5,000 managed account products currently on the U.S. market, those making it through our first screen more accurately reflect the 800 or so marketed widely to individuals. “We took off the bottom feeders and the huge institutional managers who run $25 billion portfolios,” notes Prima’s Watson.
Having defined our territory, we then moved on to evaluating firms offering separate accounts. While it didn’t exclude smaller companies, Prima’s firm score favored those with at least $1 billion under management–one clue to their long-term viability as well as their ability to attract top-flight investment pros. Prima also gives points to firms where investment research and portfolio management team members are owners, as well as to businesses whose CEO or CIO have been in place for more than five years.
Next came the resources score. Among other things. Denver-based Prima looked at the number of analysts and portfolio managers a firm has, both in relation to its total staffing as well as to the number of securities in its portfolio. This gave us an idea of the investment pros’ workloads as well as how much emphasis their firms put on investment staff.
The Performance Effect
Portfolio managers’ tenure is important as well, as is their products’ importance to their firms in relation to their total assets under management. In addition, Prima evaluated whether the “performance effect” is a hindrance or a benefit. A small-cap portfolio, say, can certainly achieve some economies of scale as it grows from $750 million to $2 billion. But at that size, the product may not be as nimble or effective as it was when it was smaller.
Client service is so important in the managed account world that it merits a score of its own. Prima looked at how responsive a firm is to requests for customization, where appropriate, along with how often it stays in touch with advisors and their clients. Another area that has its own score, as well as its own winner in Smithbridge, is tax efficiency. To generate the tax efficiency score, Prima looked at “tax friction,” the percentage of a product’s gains that are lost to capital gains levies, as well as tax management techniques and the ability clients have to improve their tax situation through loss harvesting. With recent changes in the tax laws favoring corporate dividends, Prima gave extra credit to managers with higher-yielding portfolios.
The final criterion is performance. Prima and S&P relied on a proprietary model that ranked performance against appropriate benchmarks and the results of peers. But the model also considered consistency to smooth out single periods of extreme outperformance that can skew a manager’s long-term average returns. Says Watson: “This separates the skilled from the lucky.”
To come up with a final performance score, each managed account product received six individual scores calculated over rolling three-year periods. Three of the scores were based on the product’s average alpha, its excess Sharpe ratio, and excess return against its benchmark and peers. Three scores were based on the overall consistency of these measures. While no system can see into the future, this one can give advisors clues about the range of relative performance they may come to expect.
Once the numbers rolled in, the human factor came into play. The Awards Committee debated a substantial list of finalists. We decided early on that a given asset class could have more than one victor; such was the case for the large-cap and small- to mid-cap categories. We combined the small- and mid-cap categories, incidentally, because of the limited number of players in these areas and owing to the propensity of some managers, including ICM, to use both asset classes in a single portfolio. We also combined the short- and intermediate-term bond categories in that Nuveen was a clear winner in both.
We excluded products whose managers had all but stopped taking new assets, however, even though they had not officially closed their doors to additional clients. We also screened out products with very limited distribution or where the judges were concerned about a lack of a formal succession plan for veteran asset managers. In addition, we excluded products that earned high scores in some categories but poor ones in others.
In the following pages, you’ll see profiles of the seven U.S. Separately Managed Account Award winners, including tables about their products, courtesy of Prima Capital. On their own or taken as a complete portfolio, the winners deserve your attention.
THORNBURG INVESTMENT MANAGEMENT
If you ask Bill Fries how he defines value, get ready for a long explanation. However the veteran asset manager describes it, Fries’s concept of value, as well as his firm’s attention to separate accounts, both stand out. “There is a real need for people to focus on all the elements of what it takes to deliver a product,” he says.