Separate accounts gain as funds falter

Wrap accounts are booming even as mutual fund asset growth slows.

Assets in such accounts grew at a 25% compound annual rate over the past five years, and grew by 16% in 2000 despite a down market, new research by Cerulli Associates Inc. of Boston shows. Mutual fund assets dropped 2% last year.

The separately managed accounts for wealthy retail investors, once viewed by institutional managers as “the ugly stepchild of retail distribution,” are emerging as one of the hottest distribution channels in the business, and money managers of all knits are itching to participate.

“The money managers are banging down the door and kicking and screaming to get in here,” says Jeff Cusack, senior vice president of managed accounts at Charles Schwab & Co. Inc.

The “here” that Mr. Cusack refers to is Schwab’s planned Managed Account Select program, which will give 6,000 financial advisers using the Schwab platform access to a screened universe of 50 institutional money managers eager to provide separate-account management starting at $100,000.

Wrap accounts, also known as managed accounts or separate accounts, provide investors with individual portfolios in specific styles that can often be customized to meet certain needs. They are most commonly sold by advisers or brokers, and the typical minimum initial investment is $100,000.

So hot is the separate-account market that mutual fund managers are eager to get in on the action. So far, Houston-based Aim Management Group Inc. and MFS Investment Management of Boston have started to parlay their mutual fund management expertise to manage separate accounts.

Growing interest

“The market is changing,” says Kamala Sachidanandan, director of marketing for Aim Private Asset Management. “The separate-account market is growing so much more rapidly than the mutual fund market.”

The Aim separate-account unit was established as a subsidiary of the fund company in September. It began to offer separate-account management in eight different disciplines the following month, and has so far attracted $15 million.

“We’re even surprised at how well it’s going after so little time in the market,” Ms. Sachidanandan adds.

According to industry watchers, there is a growing interest in separate-account management both from fund companies and from institutional money managers that haven’t yet branched out into the high-net-worth market.

“Everyone is trying to get in position to get a piece of the pie,” says Cerulli senior analyst Ryan Tagal. “I can’t tell you how many times companies call us and tell us about their plans to support this industry.”

According to the Boston research firm, which plans to release a comprehensive report on the management of separate-account assets in April, the so-called consultant wrap industry had $289.8 billion under management at the end of 2000. That is up from $248 billion at the end of 1999 and $92.7 billion at the end of 1995.

The separate-account industry still pales in comparison with the $5.2 trillion invested in mutual funds (excluding money market funds), but according to Cerulli, the two industries are currently moving in opposite directions. Last year, separate-account assets grew by nearly 16.9%, while long-term mutual fund assets lost 2.3%, marking the fourth straight year that asset growth in those managed accounts outpaced the growth of mutual fund assets.

John Sieger, national accounts manager in MFS’ private-portfolio-services group, says the pace of growth in separate accounts was among the leading reasons that the subsidiary of Sun Life Assurance Company of Canada moved into separate-account management six months ago.

“Mutual funds have been very good to this firm,” Mr. Sieger says. “But we feel separate accounts is a growing area.”

Like Aim, MFS has added separate-account-marketing specialists to its wholesaling force, which is responsible for promoting the company’s money management strengths to the wirehouses, broker-dealers and various platforms that link the institutional money managers to the brokers and advisers.

In three investment disciplines – large-cap core, large-cap growth and large-cap value – MFS has so far attracted $14 million in separate-account assets.

Cerulli research analyst Paul Fullerton, who is heading up the research on institutional money managers, points to technology as one of the unsung heroes of the expansion of separate accounts.

“Technology has played a large part in enabling money managers to manage multiple accounts,” he says. “And technology is only in the first inning as far as being efficient.”

Mr. Fullerton points out that institutional money managers are turning to separate accounts for individuals to make up for a shrinking pool of defined-benefit retirement assets, and mutual funds are hoping to offset a slight shift away from retail by going with the flow of money.

No advantage

“Money management is moving in both directions – mutual fund companies are moving upmarket and traditional institutional managers are going downmarket,” he says. “You will continue to see more and more entrants from traditional mutual fund companies.”

In terms of expanding into separate-account management, Mr. Fullerton points out that mutual fund companies don’t necessarily possess any kind of competitive advantage, regardless of their performance and track record.

Even though fund companies are using the same management teams that are running their mutual funds, there is often the challenge of paring down portfolios to the typical separate-account size of between 20 and 80 stocks.

Meanwhile, the financial planning intermediaries are doing their part in touting the tax benefits and cachet that comes with investing in separate accounts.

“This market has never had the awareness that it has seen in the past 18 months,” Mr. Fullerton adds.

But even as the industry appears intent on fueling the growth of separate accounts, not everyone is sold.

“I think the allure of separate accounts is driven by marketing departments,” says John Abrahamson, chief investment officer of Sigma Investment Management Co. in Portland, Ore. “It’s all packaging.”

Mr. Abrahamson, whose firm oversees $135 million in client assets invested primarily in mutual funds, says introducing individual stocks to investors “invites emotions.”