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New Entrants, Products to Drive SMA Growth


Robust growth in the separately managed account industry is expected to continue in the next few years, driven by new entrants and modified products.

SMA assets are projected to increase from $700 billion today to $1 trillion by 2010, according to Chicago market research firm Mintel, which recently issued a report on SMAs based on interviews with 300 SMA investors.

The SMA market is mostly dominated by wirehouse giants Merrill Lynch, Morgan Stanley, Smith Barney, UBS and Wachovia, which collectively control 80% of the market. SMAs are ideal for wirehouses because they can attract a lot of assets and offer a wide array of investment vehicles, said Steve Deutsch, director of separate accounts business at Morningstar of Chicago. SMAs can package exchange-traded funds and hedge funds as well as equity and fixed income structures in the portfolio.

However, despite the dominance by wirehouses, new entrants, such as insurance companies, regional brokers, mutual fund firms and banks will continue to expand into the arena. New players in the field want to offer a greater range of investment products to their clients, according to Mintel. SMAs have a number of attractive selling points and have been significant in helping market participants gather assets, especially from high-net-worth clients.

"Wealth managers have made SMAs an investor preference, and many financial planners recommend them for wealthy clients, as they work around a client's needs more so than mutual funds," said Peter Muratore, chairman emeritus of the Money Management Institute of Washington.

In addition, "separately managed accounts are conducive to a fee-based environment that advisers are transitioning to from commission-based accounts," Deutsch said.

Evolving technology is making the resources to create, manage and service SMAs less complicated and easing the barriers to entry. As a result, minimum account requirements have fallen to lows of $25,000 to $50,000 from $1 million.

Unified managed accounts, which can be compared to funds-of-funds, are the next generation of SMAs, despite the fact that they have only been in existence for a few years, experts said. UMAs are not well recognized yet, but more firms are starting to offer and explain them to clients. "They can serve as a product that will not cannibalize existing accounts at the firm, but attract new assets under management," Deutsch said.

In addition to allowing investors to have multiple products in one account, UMAs provide allocation rebalancing, tax optimization and consolidated performance reporting. UMAs allow separate account portfolios to be implemented at minimums as low as $25,000 because they can make use of ETFs and mutual funds to fill in asset classes that don't meet SMA minimums, resulting in better asset allocations, especially for clients with account balances below $500,000, according to the Mintel report. Sixty-five percent of respondents with incomes over $250,000 responded that they were "likely" to invest in a UMA in the next year.

Wealth management firms will increasingly outsource their services and embrace an open architecture approach. "There is growing evidence that more banks are entertaining the idea of using outside money managers for their wealthiest clients, under pressure from trust clients to do so," according to Mintel.

"Banks may not have core competencies in picking money managers and creating technology platforms, so it is more efficient for them to outsource SMA programs," said Lauren Bender, an analyst with Celent of Boston.

However, SMAs have a number of challenges to overcome, least not of which is a fair amount of misunderstanding among investors. SMAs do not have one common reference and are referred to by a wide variety of names such as separate accounts or managed accounts, Deutsch explained.

Often, SMAs tout themselves as tax efficient and customized, but tax efficiency and customization are only met around 20% of the time, Deutsch said.

One way the industry is making sure that all SMA goals are met is by having an overlay portfolio manager take on the responsibility to make sure the account operates as it should.

SMA products will face competition from mutual funds and ETFs, Bender said. Mutual funds are starting to win back their appeal after the trading scandals and are lowering fees. ETFs also offer a low cost structure, with tax advantages.

SMAs will continue to develop, "just not without some growing pains," Bender said.

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