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Tapping the Mass Affluent

Third parties jumping on the separate-accounts bandwagon are helping independent financial advisers serve the mass affluent with Web-based platforms.

New entrants are shaking up the separate-account industry by supplying Web-based platforms that give advisers the tools to pick independent money managers.

Mutual Service Corporation, an independent broker/dealer in West Palm Beach, Fla., owned by Pacific Life Insurance Company, offers its network of 1,500 independent-financial advisers a choice of three separate-account programs: Managed Assets Program (MAP) from Prudential Securities, EnvestnetPMC and Lockwood Financial. Of the three, it prefers MAPs - the one it private labeled.

"They are dong the best job of going out to our advisers and helping us drive business now," says Adam Gellis, MSC's advisory-services analyst.

Now MSC is evaluating a fourth program from Boston's Placemark Investments that superimposes a proprietary tax-efficiency program on top of independent money managers' stock picks. "The reality of it is, we give our advisers the freedom and choice to use the service they want," says Mark Schoenbeck, vice president and director of MSC's advisory-services department.

The move reflects the burgeoning interest in separately-managed accounts and the growing influence of third-party intermediaries using technology to drive down costs and distribute separate accounts to a broader audience of financial-services companies. At the same time, they are helping the money managers scale their back offices to handle thousands of individual accounts.

With $416 billion in assets, as of March 31, 2002 - projected to grow to $1.2 trillion by 2005 - separate accounts are one of the fastest growing parts of the wealth-management industry. For years, wealthy individuals needed $5 to $10 million to qualify for a separate account. Today, technology is driving access down to the mass affluent with anywhere from $100,000 to $500,000 to invest. The growth is driven by the industry's move from commissions to asset-based fees and a desire on the part of financial advisers to offer more value in the form of customized portfolios - even if they lack the expertise to do it themselves.

Separate accounts or managed accounts are individual portfolios of securities managed by an institutional-level investment-management firm.

The term separate account is virtually synonymous with wrap accounts because they bundle the management, transaction and custody fees into a single fee. But whereas wrap accounts include mutual funds, separately managed portfolios do not. (Yet even this distinction seems debatable - some of the newer entrants blend separate accounts, mutual funds and hedge funds to achieve diversification at lower-asset levels.)

Today, the top five securities wirehouses - Merrill Lynch, Salomon Smith Barney, UBS PaineWebber, Morgan Stanley and Prudential Securities - dominate the wrap-fee business, with over 70 percent of the assets. "The wirehouses control the assets in the business, but the fastest-growing programs in terms of growth rates are the non-wirehouse programs," says Kevin Keefe, vice president and senior consultant at Boston-based Financial Resource Corp.

Over the past three years, a cottage industry of third-parties, including Advisorport, SmartLeaf, and Run Money (acquired by Advisorport) have sprung up, using browser-based technology to launch separate-account programs for independent financial advisers, banks, certified-public accountants, credit unions, insurers, regional banks and online brokers that want to enter the business.

"The turnkey players provide everything from proposals to statements to performance reporting to fee payment," explains Keefe. More established players such as SEI Investments, Fundquest, Brinker Capital and Lockwood Financial also fit into this new breed of turnkey-asset-management programs dubbed TAMPs.

Among the fastest growing is Philadelphia-based Advisorport, with $1.7 billion. It offers turnkey solutions for distribution companies that don't have the resources to build it themselves. "We built out an entire platform for the fee-based adviser to build strategies and select products regardless of what their clients' needs are," explains Gregory Horn, chief executive officer, Advisorport.

A second category is the provider. Rather than provide a full turnkey, they provide a set of tools that a firm may use and brand themselves. "For those financial institutions that don't want to build it in-house, that don't want to take on the headcount, that want to be in it fairly quickly, we provide the outsourced solution for it," says Erik Davidson, president and co-founder, Separate Account Solutions (SAS)."

Based in Carmel, Calif., SAS custom builds separate-account programs for institutions under their own brands. Rather than hire a TAMP, which offers more of a cookie-cutter approach, says Davidson, SAS partners with Accenture to help large financial-services institutions with marketing, money managers, operations, customer service and technology.

"Anyone who has the technology to make this business easier, either from the front-office perspective or the back-office perspective, has an opportunity to make a go at it because that's where the friction is in this industry," comments Keefe. Though each of the top five firms have their own proprietary back-office systems - except Merrill which uses CheckFree APL - money managers that participate in multiple-sponsor programs have to manually key in their trades for each style.

Managers tend to use CheckFree APL because it has interfaces to all the sponsors' systems, says Keefe. Because the separate-accounts business is operationally intensive, historically, institutional-money managers cannot afford to offer customized portfolios to the mass affluent.

"You can't ask a portfolio manager who makes $2 million a year to individually look at 50 clients because the math doesn't work, so you actually have to systematize it as much as possible," says Kevin Freeman, co-founder, SAS.

Technology is transforming the separately-managed-account business. Ten years ago, the brokerage industry required $1 million minimums and charged 3 percent fees. Now the money managers are accepting accounts as low as $100,000 and the average fee to the client is about 2 percent, says Keefe. "The rise of computer capabilities allowed the minimums to drop because you could keep track of individual-portfolio holdings on a tax-lot basis," says Freeman.

Investment advisers like Boston-based Placemark Investments and Seattle-headquartered Parametric Portfolio Associates use optimization software to customize portfolios for thousands of investors. Tamarac Inc., a Seattle-based software vendor, sells batch-optimization software so that managers can screen for characteristics, like index-tracking errors, across thousands of accounts.

Parametric, which manages about $5 billion primarily for high-net-worth taxable investors, markets the strategy to financial advisers through intermediaries such as SEI Investments. The firm's proprietary system - based on optimization subroutines from ILOG, a developer of components for the financial industry - runs on a network of PCs. "We had a throughput of 70,000 portfolios beforehand, and now we've increased that, basically to run it simultaneously," says David Stein, managing director and chief investment officer, Parametric.

After spending 18 months developing a proprietary-optimization engine last November, Placemark launched TOTAL - Tax Optimized Total Asset Link - a turnkey, tax-optimized, separately managed-account program. "Our approach ... takes the (stock) picks from leading investment managers and our software (measures the impact) of that individual (trade) right down to each cost lot of each security that's in the portfolio, and mixes it with the cost of making that transaction and then constructs that portfolio for each individual," explains Lee Chertavian, Placemark chief executive officer. "What makes Placemark unique is instead of just managing to that overall model (portfolio) what Placemark will do is they'll watch every trade for every client," says MSC's Gellis.


Trends Multiple Discipline Products (MDPs) - also called Multiple Strategy or Multiple Style Accounts - are hot, driving the growth of separate accounts down to the mass-affluent level. Advisorport launched a multiple-strategy account - offering four multi-money-manager models inside of a single brokerage account. Similarly, Brinker Capital added a managed-portfolios product that is completely Web-based using FOLIOfn's technology, known for its baskets of stocks. "Because of the leverage we gain by using that technology, we can typically do better and more appropriate diversification at lower dollar amounts," says Tim Henry, Brinker COO. Ivy is Editor-at-Large for Advanced Trading and Wall Street & Technology. Ivy is responsible for writing in-depth feature articles, daily blogs and news articles with a focus on automated trading in the capital markets. As an industry expert, Ivy has reported on a myriad ... View Full Bio

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