David Wright (Zenith Investment Partners) and Alex Donald (Ironbark Asset Management) provide their insights on the challenges and opportunities facing advisers considering going it alone.

Q: What’s your opinion of managed accounts, and the challenges and opportunities facing advisers wanting to go it alone?

David Wright (DW): There’s a lot of interest in managed accounts and with advisers ‘leaving the mothership’ to go it alone. This trend has been underway for some time now, and if anything, the Hayne Royal Commission is probably adding to the fragmentation of licensees that is currently occurring.

When we’ve been talking to businesses about leaving the ‘mothership’ and what they are going to do on the investment portfolio side of things, clearly one of the areas they are looking at is the establishment of managed accounts.

But what we have also experienced is that whilst there is a lot of interest, media coverage and talk about managed accounts, a lot of people still don’t know what they don’t know. And that’s understandable as managed accounts are still quite evolutionary for the industry.

So, against this backdrop, I would like to consider: what are managed accounts, why would you provide this investment solution, and how would you roll them out?

Firstly, if the heart of your business are model portfolios, then the move to managed accounts is a ‘no-brainer’. The move to managed accounts will make your business a lot more efficient and compliant, particularly as changes to clients’ portfolios can be made in a timely and consistent manner, executed at the same time.

Most advisers are already familiar with the different parties involved in model portfolios. Managed accounts are not much different to that, other than the introduction of a responsible entity (if you’re going with a Managed Investment Scheme) and a model manager. Often, the model manager, given the requirements of the responsible entity, is going to be an external party to your business.

With the exception of some of the larger dealer groups and advice businesses, most advice businesses don’t have the resources, the expertise and the reporting capability to be able to satisfy the responsible entity’s due diligence requirements for establishing a managed account.

So, that’s where the likes of a third-party investment consultant is going to come into play.

However, there is a misconception that MDAs are a service. From 1 October 2018, MDAs will be regarded as financial products, just as managed accounts under a Managed Investment Scheme are.

If you don’t already have a MDA licence, they will become increasingly difficult to get, typically taking around 9-12 months to get from ASIC. So, for the majority of advisory groups, realistically, if they are wanting to establish a managed account, it would most likely be under a Managed Investment Scheme, offered via the various platforms.

Advantages

There are a number of advantages to operating managed accounts and the key advantage from an advice perspective is the improved efficiency. This includes the elimination of the need to have SOAs and ROAs for portfolio changes, which is probably the key advantage.

And the other advantage is your clients are going to have a much more consistent investment experience, compared to the same type of portfolio they are currently in, due to the regulatory regime we operate under. For example, changes made to traditional client portfolios, could take up to 12 months to make, depending on client authorisation. So, depending on the urgency or need for that portfolio change, there can be massive compliance risks for your business.

From a client’s perspective, a managed account is all about enhancing your service to the client. That should result in better performance, because you’re not having to seek client authorisation for portfolio changes, which can delay the implementation of changes.

And there’s also the ability to provide enhanced reporting to your clients. If clients are invested in more consistent portfolios, as they would be through various managed account portfolio options, the reporting capabilities should be greatly enhanced.

Requirements

David Wright:  From a best practice perspective, running a managed account and reporting though to the responsible entity requires the licensee to meet a number of requirements. This includes both from the investment committee’s perspective and also from the adviser’s perspective.

The adviser also needs to engage with the client in regards to what’s happening in the portfolio. The adviser also needs to provide the client with information and reporting that they can’t get themselves. And that’s something that is becoming increasingly difficult, with investors able to get information directly from fund manager websites.

However, what clients can’t currently get is consolidated reporting on a full transparency basis, including the stocks they own, the asset allocation, performance analysis and the portfolio changes. That is what the adviser needs to be able to provide to the client as part of the managed account service offering.

And while most clients are not going to know who an MFS, Arrowstreet or Magellan are, they do know the consolidated underlying stocks they hold. So, that full transparency to the real exposures in the portfolio are some of the enhancements an adviser should be able to provide to clients by running a managed account structure.

Alex Donald: The forces that have been driving the move to managed accounts are largely twofold. Firstly, in a post-FOFA world, advice businesses have been focused on profitability, while at the same time, there has been significant technological capability developed for managed accounts, which is driving greater efficiency. And secondly and importantly, managed accounts are improving client outcomes and client experience.

In fact, the current environment shows these forces affecting managed accounts are only getting stronger. For example, only in the last few months, you’ve got grandfathered arrangements turning off for advisers, which are a key revenue item in a lot of planning businesses and so, there is going to be an increased focus on business profitability.

Flat pricing

Another recent development in the industry, and we still have to wait to see how this plays out, is we now have a major platform in the market with flat pricing. Flat pricing means you are no longer rewarding scale. So, if you are a financial planning business with $10 million or an institution with billions of dollar, you get the same price from that platform. This flat pricing structure will fundamentally shake-up the large licensee dealer group aggregation model.

And while there are a lot of reasons why advisers are in large licensee models outside of just platform pricing, price is nonetheless, a key reason why advisers are with large licensees.

So, as a result, I think we will continue to see fragmentation of the industry, and a move by advisers to increasingly use managed accounts as a way to make their businesses more profitable.

I also believe the Hayne Royal Commission is causing advisory businesses to pause and consider their advice model. They are thinking about a range of issues, such as: what is it that I’m building, how am I building it within my business, how am I dealing with conflicts, and how am I dealing with the negative perceptions around vertical integration. These are the key questions planning businesses are asking.

But once everything settles down in relation to the Royal Commission, we predict the trend towards managed accounts will continue even harder.

Q: For practices setting up a managed accounts structure, how do they avoid replicating the conflicts of the big institutions, such as commercial arrangements, within a smaller environment?

Alex Donald: Conflicts are dealt with under current legislation. Under current managed account models, clients are charged an advice fee. Fees are disclosed to the client, they are consented to by the client, and they are normally part of the ongoing fee disclosure and FDS of the licensee. So, I don’t think there is anything wrong with that.

I think where there could be a problem is if there was an old model that advisers wanted to use. The licensee could potentially embed a product fee. That would then be a conflicted payment.  

David Wright: The way that motherships or big institution APLs have traditionally been constructed has had a bias towards internal product. I think that is beginning to break down as a result of the Royal Commission. Even the institutional groups have suddenly begun looking at providing the ability for internal businesses and advisers to support external platforms.

But an issue I see is with platforms doing various deals with different fund managers to have lower priced options on their platform. Now, while they can’t do that with every manager and with every asset class, what’s happening is you’re getting preferential pricing for some funds on different platforms. They’re in new unit trusts.

So, advisers are encouraged to use these discounted offerings by the platform and the platform is making more margin on those products. So, the conflict is slightly different but there is still incentive at a platform level to use particular products.

And this also raises the point of the transferability of managed accounts as well, although I personally believe the ability to transfer managed accounts from platform to platform is much harder than what some people make it out to be.

Q: How do you view those advisers who want to run their own individual portfolio construction out of their own practice?

Alex Donald: We act as the responsible entity for licensees doing exactly that. As a responsible entity, we have requirements in order for them to do this.

If you are going to be a model manager, there are significant capability requirements needed, not just by the responsible entity, but also others, including the superannuation trustee, governance teams and platforms.

So, in our case, unless the licensee has a substantial internal investment capability, and there are some licensees that do, then we would be looking for the licensee to have an external consultant doing the heavy lifting on the investment committee. In addition, we would be looking for an independent investment committee member.

We advise the licensee in how to fulfil these requirements, so that they can be successful in getting though the governance framework.

Importantly, what we are trying to do is help licensees build robust, future-proof investment capabilities for their managed accounts, which will not only last over time, but also add value to their business and for clients.

These are the type of requirements that are significant for any licensee.

But for many licensees, managed accounts is a new world for them. There is product regulation and governance requirements and processes, which unlike fund managers, licensees and advisers wouldn’t know all that well, because it’s not their natural environment.

David Wright:  A lot of planners are leaving the mothership for various reasons, but one of those is the constraints they have operated under in relation to the compliance regime. So, these planners are either coming out of a larger dealer group and joining a new collective, smaller licensee or even under their own licence.

However, I think it’s important to note that there is a mistaken belief by some advisers leaving their dealer group that now that the shackles are off, they can do whatever they want. That’s absolutely not the case with managed accounts.

There is a responsible entity in place, at least for Managed Investment Schemes, whether that be external or platform-based, with onerous due-diligence requirements. So, advisers need to meet these requirements.

So, the idea that advisers can built their own investment portfolios in-house and then simply go to a platform and expect to run their own managed account on it, is mistaken. It’s not that simple. There are a lot of requirements that first need to be met.

David Wright is Managing Partner at Zenith Investment Partners, and Alex Donald is Head of Distribution at Ironbark Asset Management.