Advisors, while experts in their clients’ eyes, may not be best suited to manage portfolios on their clients’ behalf, suggests new research from Cerulli Associates.
In the May issue of The Cerulli Edge – U.S. Edition, Cerulli looked at portfolios that are advisor-controlled compared to home-office packaged portfolios — and found that packaged portfolios frequently outperform their advisor-driven counterparts.
“When compared with portfolios that are advisor-controlled and client discretionary, packaged portfolios generate stronger returns,” Frederick Pickering, data analyst at Cerulli, said in a statement. “Cerulli believes this performance results from a combination of selecting superior managers and staying invested during market downturns and recoveries.”
According to Cerulli’s research, from the period 1Q 2010 – 4Q 2014, portfolios constructed by home-office teams outperformed those constructed by advisors and their clients. During this time period, $100,000 invested in a packaged home-office portfolio grew to $136,700, whereas a portfolio of the same amount with advisor involvement grew to $133,745 in a hybrid portfolio or $133,550 in an open portfolio.
Cerulli defines “packaged portfolios” as managed accounts that are put together by broker-dealer home offices. All decision-making responsibilities are relayed to central research committees, and advisors and clients do not have the ability to adjust asset allocations or change managers.
Meanwhile, advisors have more flexibility in what Cerulli calls “hybrid” and “open” portfolios. Hybrid offerings allow advisors to populate centrally provided allocation models with funds and managers drawn typically from a select list. With open portfolios, advisors have the greatest degree of flexibility in building fee-based portfolios for clients.
Cerulli’s latest research also finds that home-office packaged portfolios have experienced significant growth over the last 10 years.
Home-office packaged assets under management have expanded at a 22.8% compound annual growth rate between 2005 and 2015. These platforms offer scalable advice for small-balance accounts, which, according to Cerulli, drive their growth.
Cerulli alludes that some of this growth may also be due to the number of digital advice firms such as Betterment, FutureAdvisor (acquired by BlackRock) and Jemstep (acquired by Invesco) that are partnering with advisors to deliver packaged offerings to low-balance accounts in a scalable way.
These platforms are heavily packaged, with asset allocation happening at the home office and manager selection consisting of grading exchange-traded funds by various factors, such as cost, liquidity and tracking error.
Cerulli finds there are significant differences in the portfolios constructed by advisors and those created by home offices.
“When analyzing the difference in performance, packaged platforms are less tactical than portfolios in open arrangements,” Pickering said in a statement. “We observe this effect when the market declines and packaged portfolios decline further than their open counterparts. After the market reaches its low point and prices recover, we observe that packaged portfolios generate higher returns than their open counterparts.”
Cerulli suggests that advisors and clients are trying to time the market and sell out of their positions when the market falls – which dampens the fall in the account – but when the market recovers they are too late to re-enter successfully.
“Market timing is challenging for many reasons; it requires being right twice, once on the sell order and again on the buy order,” the Cerulli report states.
Another rationale for the performance differential is the contrast in manager selection between advisors and home-office gatekeepers. According to Cerulli, home offices value quantitative factors in manager selection.
While home offices may implement more sophisticated processes in manager selection, the allocation for the average home-office portfolio is rather simple.
Compared with advisors, home offices are, on average, more likely to hold domestic bonds by nearly 9 percentage points and maintain lower allocations to real estate, alternatives, cash, and commodities.
Another key difference is that home-office teams have significantly more money invested in the market at any given time.
While all managed account platforms need to maintain some level of cash to withdraw in the form of fees, home-office teams keep the portfolio more invested in cash than advisor portfolios. According to Cerulli, advisors keep approximately 4% of their portfolio in cash, while home offices opt to invest the cash.
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