Advisers want skin in game, but many don’t screen for it

Cern Basher won’t even consider mutual funds if the portfolio managers don’t have their own money invested in them, and he doesn’t want to see merely a few hundred dollars in there.

“The bigger, the better,” said Mr. Basher, who is co-founder and chief investment officer at Madison Wealth Management.

Most financial advisers would agree that portfolio manager ownership of the funds that they manage is important. But few use it as a criterion when selecting funds.

In an online survey conducted by InvestmentNews this month, 89.5% of 143 advisers said that it is important that the portfolio managers of the funds in which they invest have their own money in the funds. More than 84% said that they think that it makes a difference in fund performance, which Morningstar Inc. research confirms (see the Investment Insights column on this page).

‘NICE TO HAVE’

But many advisers don’t screen for funds that the portfolio manager owns when choosing funds.

“It makes us feel good when the manager invests their own money in the fund, but it wouldn’t be a reason for us not to buy the fund if they didn’t,” said Steve Johnson, an adviser with Raymond James Financial Services Inc.

Malcolm Makin, president of Professional Planning Group, said that he views portfolio manager ownership in the funds that they oversee as “nice to have.”

“I don’t think it makes a difference if the portfolio managers invest in their funds or not, but philosophically, one should be willing to take ownership of what you are espousing,” he said. “However, it would not keep us from using the portfolio if we like it.”

Some advisers who take a harder stance on the issue invest in their own portfolios and want to see portfolio managers do the same.

At Madison Wealth Management, for instance, 10% of the firm’s $300 million under management is employee and owner assets.

“If the fund manager doesn’t have enough conviction to put his own money in his portfolio, that’s a deal breaker for us,” said Keith Bonner, a partner at Bonner & Smith LLC, which requires its advisers to invest in the same portfolios as its clients.

Portfolio manager ownership and other factors such as manager tenure and fund expenses are better indicators of how funds will perform than Morningstar’s star ratings, he said.

“The star ratings just tell us what the funds have done, and we want to look at factors that will drive performance in the long term,” Mr. Bonner said.

Jason D. Lina, director of research of DCA Global’s wealth management segment, said that he has seen firsthand how portfolio managers who invest in the funds that they manage often pay more attention to certain details than those who don’t.

“Managers who had their own money in the funds paid more attention and were more mindful of taxes and trading costs,” he said.

But there are still many examples of funds where the manager invests in them but the performance still lags, Mr. Johnson said.

For example, Davis Advisors touts on its website that it has more than $2 billion invested in its portfolios. Nevertheless, the firm’s Davis New York Venture Fund and Select American Fund have underperformed their peers for the past one, three and five years, according to Morningstar.

“A lot of the family wealth is in the funds and that hasn’t made a difference with the performance,” Mr. Johnson said. “They don’t control the markets any more whether they have their own money in their portfolios or not.”

It is true that just because a portfolio manager invests in his own fund doesn’t guarantee good performance, but it does soften the blow, Mr. Basher said.

“What it does for me is that it ensures that the manager is thinking long and hard about the investments they are making,” he said.

Some advisers, including Mr. Basher, want managers to make sizable investments in their funds.

“I don’t know that there is a right number, but you want more than a token dollar amount invested in the fund,” Mr. Lina said.

Though portfolio manager ownership may be important to advisers, it is rarely an issue for clients.

“I have never had a client bring it up,” said Madeline Noveck, a principal at Novos Planning Associates Inc., who has been an adviser for 26 years.

But with continued market volatility, Mr. Basher and others said that seeing the managers in the funds they oversee is helping them focus on the long term.

“The short-term bumps don’t give me quite as much concern if the manager is investing in the fund,” he said.

E-mail Jessica Toonkel at [email protected].