Investment management for High Net Worth clients

When it comes to building investment portfolios for its HNW clients, Perpetual Private takes a traditional risk-based approach with its multi-manager funds, and then applies asset allocation calls at different levels.

“We might make calls within these funds that we wouldn’t ordinarily make, if it means redeeming and moving out of different funds,” says Kyle.

He adds that Perpetual Private does provide specialist asset allocation for charitable clients, in which capital restricted trusts — like private charitable trusts — cannot distribute capital. In such cases, Perpetual Private can afford to take on more illiquidity for these types of clients.

However, in general, Perpetual Private runs its portfolios with a close eye on Australia’s super regulations and requirements, where there is a 20 per cent limit on illiquid assets. This means that on average, its client base has about 15 per cent invested in private assets and unlisted markets.     

It’s a not dissimilar approach that Morgan Stanley takes with its portfolio construction process. It has a sequenced approach to investing, which starts with Strategic Asset Allocation (SAA) for its five risk-based profiles.

According to Alex, this process starts with undertaking capital market assumptions, and risk and return forecasting for the main asset classes. Morgan Stanley also looks at the macro forecast for Australia over the next seven years, which is the cycle it uses for capital market assumptions.

“Once we’ve done that, we create our set of capital market assumptions for the Australian market,” he says. “We then optimise our SAAs with the goal of hitting our risk and return objectives set for each risk profile. We refresh our SAAs every three years, with an annual ‘check-in’, just in case we have to do an out of cycle refresh due to market movements.”

Morgan Stanley then implements a Tactical Asset Allocation (TAA) overlay, based on how markets and its views are moving.

“We also have a number of clients that are not-for-profits, family offices and ultra high-net-worths that do require a custom asset allocation, with a defined rate of return and risk profile. We work closely with these types of clients in defining an appropriate asset allocation for them, and then manage that to their SAA and TAA,” says Alex.

When it comes to portfolio customisation, Perpetual Private constructs investment solutions for a broad client base. However, Kyle says it’s then up to advisers to talk to their clients and translate these solutions into a bespoke portfolio that meets the specific needs and objectives of the client. “This is why the advice process is so valuable, particularly for HNW clients,” he says.

In terms of portfolio customisation, Perpetual Private allows adviser discretion. It has a process where advisers can effectively ‘fill in the gaps’ where they feel there is a product in the market not on its Approved Product List, but which is deemed necessary for the client. If the adviser can justify the need for that product and support their decision with suitable research, they then have the discretion to include that particular product for the client.

“Our advisers can absolutely tailor their portfolios if the client’s needs and objectives require it,” says Kyle. “That’s why we have implemented strong governance and a robust decision-making framework to enable this to happen.”

For its custom portfolios, Morgan Stanley imposes a threshold of $50 million for a custom SMA, which is managed by the investment team in Australia. And while it offers a full ‘hands-off’ solution for larger clients, it also provides advisers with discretion when constructing a client’s portfolio, but within the bandwidth of the defined SAA.

“We are aware that some clients, particularly in the not-for-profit space, want to be more ‘hands-on’ with their investments and enjoy working closely with their advisers. This type of client is probably not suited to an SMA solution,” says Alex. “In such cases, Morgan Stanley is happy to act as a consultant for these clients, and help them and their adviser build a portfolio that better suits their objectives.”  

Kyle acknowledges the challenges and opportunities of using illiquid investments for HNW clients, particularly when customising portfolios. He says Perpetual Private is a huge advocate of finding opportunities in unlisted and private markets.

“For advisers and wealth managers, it’s becoming increasingly important to participate in these types of illiquid areas, because they are growing,” he says. “The private equity space is growing and the number of listed companies on stock exchanges is actually declining. So, we’re seeing increasing participation in this part of the market.”

Kyle believes scale is important when using alternatives in a portfolio, due to the higher minimum entry point to access these assets. Perpetual Private manages a program of alternatives, which is divided into: growth alternatives and income generating alternatives. Growth alternatives include unlisted infrastructure, unlisted property, private equity, and hedge funds, while income generating alternatives cover private credit. In order to access these types of opportunities, scale is needed.

“However, it’s important to remember that illiquid assets mean investors are giving up their liquidity, so they need to get something in return. If you’re giving up liquidity, you need to have a high level of confidence that the manager can exploit that illiquidity through their skills to generate higher alpha or by taking advantage of special situations.”

Kyle adds that what you do find in unlisted and private markets is persistency of manager outperformance, where the best managers tend to outperform significantly and consistently, compared to listed markets.

“Therefore, not only is it important to be able to identify those fund managers that can outperform, but it’s also important to monitor them. That’s because if a certain individual leaves, you need to understand where that skill base was and whether or not it’s gone now. You need to be able to determine if the team is now sufficiently resourced to keep continuing on with what they were doing previously,” says Kyle.

“Alternatives is not a well-known market and there’s a different universe of managers operating within it. That’s why you need to do a lot of due diligence to cover all your bases before making any investment decisions in this asset class.”

Alex concurs, acknowledging that alternatives has the most dispersion between good and bad managers. “So, clearly, due diligence is everything.”

In terms of managing illiquidity, Morgan Stanley’s multi-asset core management program generally seeks relatively liquid products. And while there is exposure to alternatives — including private markets — in its model portfolios, Alex says Morgan Stanley does try to stay with liquid and semi-liquid products that allows the manager to redeem within three months. But when it comes to its satellite exposures, there is greater flexibility, by providing a variety of options with different types of lock-up periods.

“When considering illiquid assets, it’s very important to have appropriate education of this asset class for both clients and advisers,” says Alex. “Everyone needs to understand the trade-off between liquidity and returns. They need to understand the underlying asset class, including the fact that these funds could see some mark downs over the short-term. These funds might also deploy capital at a different period than what was expected, and could be gated for a while.

“A number of things could happen with alternatives, but if you partner with the right manager, you are more likely to lower the uncertainty around all these events that might happen throughout the life of the fund.” 

Kyle agrees the issues around gating is very important. He says advisers need to be explaining these risks to clients.

“Gating funds has traditionally been the end of a fund’s life,” says Kyle. “You can’t deny the fact these are illiquid exposures. And while some of these funds can give you liquidity from time to time, you need to be on top of these issues and manage the liquidity in your portfolio.

“As alternative managers get better at providing access to these types of assets to wholesale and HNW clients, we can’t forget that an individual is different to an institution and has different needs. So, when investing in these types of structures, you need to manage the expectations of your clients and make sure they understand what they are investing in.”