Learning the hard way

Laird Abernethy: Provide an overview of your business and how managed accounts are used to implement your firm’s investment strategy and philosophy. Please also outline the key investment lessons learnt from running managed accounts.

Paul Saliba: IOOF, through the acquisition of the Shadforth business, brought in its own managed accounts solution. Within the Shadforth business, we run Managed Discretionary Accounts (MDAs) – they’re not IMAs or SMAs. They are solutions through a service agreement between the business, the client and the platform provider that provides the technology.

We have two variants of the managed account offering. One is a full service offering, where everything is implemented and internal investment changes get implemented in client accounts in a timely manner.  

The other solution is a semi-discretionary account. It still requires a record of advice (ROA) but by using MDA technology available at Colonial First State and BT, it means we have a solution that is between a full MDA and a traditional business model, where you provide advice on a regular basis. It has a six-monthly review process but it does require an ROA to be signed off by the client.

This solution is very popular with planners because, to clients, it looks like a traditional advice model – they get an ROA every six months that outlines the performance of their investments and any changes that are being proposed, and the client signs off on it. It’s actually a very popular solution.

However, the problem we’ve found is that it’s actually quite clunky when you’ve got thousands of clients and you’re having to generate this centrally within a small team. Having to generate ROAs across a whole range of different risk profiles and portfolios is a very expensive process. More recently, we’ve implemented an email process to do this. But you’ve still got to wait for the ROA responses to come back.

So, in terms of what you’re trying to achieve from an investment perspective, this process undermines the ability to implement a change when it’s required, because invariably, clients are either on holidays or not answering their email or they never received their ROA in the mail.

But our managed account solution is being adopted through a full process that we’re slowly rolling out to the rest of the IOOF business. So, with the Bridges business, we were able to identify the types of planners and clients who were more suitable to having their portfolio fully implemented.

There are three important elements that an AFSL is required to fulfil. The first two are to act honestly and efficiently. But the third element is: fairly.

I suggest that the traditional advice model of servicing only those clients based on their wealth or the fees generated, doesn’t fulfil the requirement of an AFSL to treat clients fairly.

And so, the managed account solution rolling out through Bridges is being seen in two ways. Firstly, through business efficiency at the practice level, resolving issues around corporate actions in the equity and listed securities space, and providing a full portfolio solution.

Planners are slowly understanding the opportunity that managed accounts provide for their businesses and they are seeing the benefits that come to clients of having portfolios implemented in a timely manner for their particular risk or investment portfolio.

Justin McLaughlin: We run a suite of managed accounts on a couple on in-house platforms – a wrap and a master trust. And we now also have managed accounts on one external wrap, with this probably increasing to another one or two wraps in the near future. I suspect this is an emerging trend, where you can migrate your managed accounts across a range of platforms.

In terms of how we structure things, we have some managed accounts that are done through an older trustee authority, but that’s largely an accident of history. The newer managed accounts are under the SMA authority, because we are the responsible entity.

One thing we decided on very early on in the process of using managed accounts was for them to be quite transformational for the financial planning profession. So, our managed accounts are multi-asset class and they’re aligned to a planner’s standard risk profiles of clients. At the end of the day, we have a managed account that suits the needs of a particular client. We see that as driving a lot of efficiency.

You can have managed accounts that are standalone equities, and while they work really well, that’s only a 20 per cent solution.

We haven’t quite gone down the same route as IOOF in terms of semi-discretionary and non-discretionary. We exercise full control over all our managed accounts.

However, the mistake we made initially was we tried to get a bit too granular and offer a number of these to a number of sub-groups within our business, but we have since backed away from that. We worked out that you do need to centralise back to a suite of models and can’t get too granular, because the time you spend explaining and servicing multiple iterations just isn’t worth it.

In our experience, once planners understand managed accounts, they tend to use them as their default solution. And while managed accounts are not suitable for every client, once a planner starts using them, you do get real engagement from them.

We get about 60 per cent of flows in in-house products into managed accounts, which is fairly high, but there is a lot of work involved in doing that. One of the lessons we learnt quite early in the process was the first thing you need to do is convince planners about this mode of investment solution. So, getting the investments right first is absolutely critical.

And the second thing you have to do is have deep engagement with the planner on the investment side. If you don’t do that, you won’t get take up of managed accounts.

So, from my experience, it takes about two or three years of fairly intensive effort to go out there, engage with planners and generate acceptance by them for managed accounts.

LA: What are the key drivers for establishing a managed accounts solution?

PS: The investment solution has to be the right solution. However, there is a potential for planners to fall into the trap of believing they have to agree with every single investment within the portfolio. That’s not the case.

It’s a bit like when you buy, for example, a Magellan fund or a Fidelity fund; you don’t go through the investment and say you agree with every single equity holding in the portfolio.

It’s the same with a managed account. You don’t necessarily have to agree with every single investment within the portfolio. What it means is that you agree that the investment management team is sufficiently well-structured, staffed and resourced, and has systems and processes in place, to enable it to manage the investment portfolio correctly.

I think that’s one of the traps of a managed account. Because clients see each line item of their portfolio, planners feel compelled to agree with every investment.

So, you want an investment solution that gives the planner efficiency and provides clients with the types of outcomes required, but in a way that’s better than what traditional advice models offer.

Now, you can do that in a number of ways. You can do that through a multi-asset class investment vehicle – buy a balanced fund or buy a growth fund. So, that is an alternate way of doing the same thing.

However, if you are wanting your client to have a more flexible portfolio, where they get transparency of the underlying investments, then that is a good reason to use managed accounts; where you get efficiency and where investment decisions are implemented at the time when the investment manager wants them implemented. They get the tactical tilt or hedging of currency when the investment manager determines it to be appropriate, which is not as easily achieved through a traditional advice model.

They are the reasons why you would use a managed account solution.

LA: Are there any additional risks or compliance requirements attached to running a managed accounts solution for licensees?

JM: For big institutions, the answer is no, because in a sense, it’s just another investment product that sits quite neatly into their compliance regime.

Probably where there is a potential issue is if you are a smaller dealership. You may well use, for example, FirstWrap as your administrative platform, but you still need to recognise that you are responsible for your decisions. So, if you make a mistake, like entering the wrong number or something like that, it can be reflected across, say, 5,000 or 10,000 accounts.

So, if you are going to roll out managed accounts to a number of smaller dealerships, where they really don’t have that much experience in running big accounts, it’s probably a good idea for the likes of FirstWrap to have the appropriate callbacks, checks and balances in the system to at least reduce the chances of mistakes happening.

But, generally speaking, from a compliance perspective, managed accounts are great.

LA: In terms of portfolio construction in managed accounts, what assets do you typically use and how do you gain exposure to different asset classes?

PS: We do a standalone direct equity portfolio, we do a multi-asset class diversified portfolio managed fund solution, and then we have a combination of the two.

When you’re modelling and thinking about portfolios, you’re thinking about diversification and you’re trying to get a certain level of risk and return.

However, one of the dangers in this scenario is if, for example, you suddenly get a highly concentrated fixed interest solution of direct securities, which is not the same as what you model when you use XPLAN or any other modelling tool.

The danger is if you do that in fixed interest and then you have a direct solution in global equities, that may have 15-30 equities, and then you do that in Aussie equities, all of a sudden, you’ve got an extremely risky portfolio.

In terms of the fixed interest solution, you have nothing like institutional fixed interest instruments within the portfolio. Instead, you’ve got hybrid securities. The reality is, you’re not delivering what a fixed interest portfolio traditionally looks like. I think that is the danger you take by going down this path of trying to produce a portfolio with a whole lot of direct assets.

By all means, use some of those direct assets but understand the risk and return characteristics that creates, and then blend in other traditional funds to ensure that the portfolio in each asset class bucket is resembling the sort of risk and return characteristics that you model through XPLAN or other tools. I think that is a key to the investment piece.

You need to be aware of the assets, the blending of those assets, and the risk and return characteristics that are the outcome of what’s put together. And you need governance and oversight around that, which is important in terms of the investments and how you build portfolios.

LA: As a result of introducing managed accounts, has the value proposition of your business tilted more to investment advice, rather than strategic advice around areas like superannuation? 

JM: In terms of Clearview, the answer is probably yes, but investments in a fairly focused way, which is asset allocation and manager selection within a small subset of managers. At the moment, we’re not doing direct equities. Of course, one of the issues is how much talent and time do you have within your own organisation to do everything.

By internally focusing on our investments, we have got a better partnership/relationship with our clients and planners. And it does refocus the client discussion on the value of advice.

My concern is where you have a three person team doing bonds directly, Aussie equities directly and international equities directly, then that’s a big ask for such a small team. You need to be humble about what you can and can’t do.

PS: The way in which we deliver managed accounts is that we deliver our communication piece through the planner. Our investment team drafts a quarterly letter that talks about the changes within the portfolio, it talks about performance and talks about what is happening in the broader global market. We deliver that letter to the planner, who then sends it to the client with their own name on it. So, in that way, we don’t impinge on how the planner has presented their client value proposition.

Some planners use this as an opportunity to acknowledge with their clients that they are not the investment specialist, and therefore, they can use what we provide them as a way of demonstrating the capability and scale of IOOF.

However, for planners who have traditionally positioned themselves as the investment manager, even though they are not, there’s no need for them to articulate anything different. That’s because the letter just talks about the client’s portfolio and reasons for investment changes. If the planner presents that letter to the client, then they’re not really breaking down that traditional value proposition.

From a corporate position, what we’re doing is creating an open architecture structure. So, our managed accounts, along with our diversified funds and external solutions, is providing planners with a range of solutions to work with their clients.   

JM: It’s important to remember that the client still perceives the planner as the person delivering the service. So, one of our learnings is that when we deliver solutions to our planners, our brand is always low key. We’re really trying to make sure we have a neutral look and not something that looks product orientated. And sometimes, planners actually do appreciate being able to say to their clients that they have a bigger team supporting them.

However, there are some planners who will cling to being the investment manager, because that’s what they perceive their value proposition to be. Personally, I think it’s a mistake in the longer term, but that’s an evolutionary process they have to go through.