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10 tips for choosing a managed account

Managed accounts have grown rapidly in recent years, especially driven by 'independent' financial advisers who want to use one platform solution for the administrative efficiency of their office. Advisers are also moving away from the wraps of institutional providers as they seek to become more independent and remove perceived conflicts.

But simply because an adviser is ‘independent’ does not mean there is no conflict in the products they choose. Henderson Maxwell is the highest-profile example following the revelations of the Financial Services Royal Commission. As The Australian Financial Review reported:

“Mr Henderson was also skewered for putting a large proportion of his client book into managed discretionary accounts that included direct shares and charged high fees.”

Henderson Maxwell is not unlike some other financial planning businesses in trying to bundle clients into a particular type of a managed account where the fees are large (2%ish) and often structured as personal advice fees rather than a product fee (which have some regulatory implications). The financial adviser runs the portfolio, often using direct shares.

Watch the total package

Some of these managed accounts are excellent, using investment managers who have the experience and the capacity to research stocks and run the portfolios for the planning group. Direct share ownership structures used by managed accounts can be tax advantageous over managed funds, and transparency is much improved. In the better cases, the total fees are closer to 1% than 2% and trading costs are cheap.

Other times, managed accounts are run by an adviser with a full book of clients to call and write plans for, accompanied by a newspaper and gut feel for research. The trading fees are high, maybe the adviser gets ‘rebates’ from the broker as a reward for having clients who pay a lot in brokerage. In some cases:

  • platform costs are usually around 0.2%-0.5%
  • investment management fees are around 0.3%-1.25% depending on the type of fund
  • the adviser is often charging around 1%.

It adds up. If the adviser is also picking the stocks, then the adviser takes the investment management fees as well, probably doubling the revenue to the adviser. But the client has gone from having a full-time investment team running a portfolio to a part-timer planner who may not have the same experience in portfolio construction, risk mitigation or stock valuation as they do in financial planning.

There can be big differences on the investment side of managed accounts too. At one end is low fees, transparency and professional management. At the other end is high fees with little investment process but a slick sales process. For the high fee options, you usually need to be ‘sold’, a seduction process that will appeal to the heart rather than the head.

If you have a managed account or are thinking of opening one, here are my tips:

1. Check the brokerage. It should be cheaper than you would pay with an online broker, and probably much cheaper. If it is more, then ask questions about how payments are made and whether your planner receives kickbacks from the broker. Check how much the typical brokerage is for your size of account. For some accounts, this can be the largest cost. Brokerage is often hidden. The better managers will be open with the costs, the worse ones will pretend brokerage costs do not exist.

2. Check the platform costs. You should not pay more than 0.5%.

3. Check who is actually managing your money. If you are paying for professional investment management, make sure that it is not being done by a salesperson in their spare time rather than by experienced, dedicated portfolio managers.

4. Check the investment process. There are a number of different investment strategies that work over time. The overwhelming majority of these have a process that is followed. When you see something like “XYZ planning is a style neutral investment manager looking to invest in investments that match its thematic view” what they are really saying is that they will buy whatever they want whenever they want and there is no real investment process. It may work out well. It often does not.

5. Check the investment constraints. There should be some. You want to know that they can’t bundle too much of your money into one investment, and so there should be constraints like ‘no more than x% in any one stock’. You want to know that there are also limits to asset classes. For example, you don’t want to see Cash: 0-100% Australian Equities: 0-100% as the limits. These mean the investment managers can do whatever they want.

6. Check your internal manager costs. If your adviser is putting you into other managers’ products, make sure you understand whether there are also other underlying costs. Say you are paying 1.25% for a managed account with adviser ABC which invests in a model portfolio run by a fund manager XYZ. In some cases, the 1.25% will include XYZ’s management fees, in other cases, XYZ’s fee will be an addition to the 1.25%.

7. Check performance fees and conditions. If you are paying performance fees, then you should have lower base fees. You should also have a highwater mark and a benchmark that actually reflects the return the portfolio should make.

8. Check investment performance. This should be of the model portfolio, assessed by a third party, probably the platform provider. Be wary of advisers who offer (as evidence of performance) individual accounts not assessed by a third party. These can be ‘cherry picked’ and may include assets that typical portfolios didn’t own. Past performance should not be the only thing you look at, but it can be helpful.

9. Check risk metrics. Your investment manager should have some risk metrics, even though they don’t tell the full story. However, if your manager isn’t even watching ratios like volatility, relative return, tracking error or Sharpe ratios, then it is a sign that you have a part-timer running your money. High returns are good, but if your investment manager is using your money at the casino, then you want to know.

10. Check related parties. Who else gets paid? The worst ones are where low fees in one part of an operation are used as a bait for other divisions to make money. Accountancy fees, brokerage fees, platform fees, life insurance commissions, mortgage broking fees can all generate tens of thousands for financial organisations. Say you could have $400,000 in an industry fund costing 0.8% ($3,200 per year) or a managed account provider at 1.1% ($4,400 per year). The tax benefits, transparency and customisation may more than pay for the 0.3% difference in fees. However, if you are also paying $5,000 per year in accountancy costs on a new SMSF and another $5,000 in life insurance commissions, then the equation might not look as good.

 

Damien Klassen is Head of Investments at Nucleus Wealth. This article is general information and does not consider the circumstances of any individual.

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