Tax loss harvesting and defensive portfolios have been the way to go for financial advisers who rely on
separately managed accounts — particularly during rocky equity markets.
Clients aren't as jittery about the markets as they were last summer when the effects of the subprime-mortgage contagion kicked in, but advisers have been approaching SMA platform companies in search of ways to buffer investors from the market's volatility, according to industry observers. Strategies include shifts to investments that aren't correlated to the equity markets, use of multiple managers and making the most of losses via tax loss harvesting.
"Advisers want to know how to dampen volatility," said Michael A. Bell, president and chief executive of Curian Capital LLC of Denver. "We try to promote staying invested, but there's a decent amount of emotion [among investors]."
NO BIG CHANGES
Drastic portfolio changes aren't in the cards, as 69% of 1,305 independent advisers polled by Curian said they expected to keep their clients' risk profiles the same despite the shaky market. SMAs are used heavily by clients who are financially prepared to retire, coming in second to variable annuities.
Among some of the tactics to keep investors calm, SMA providers have been mixing up portfolio managers and strategies. Multiple managers handle asset classes and create a balance of investing styles, said Bill Crager, president of Envestnet Asset Management Inc. of Chicago.
"In the past, where you may have seen large-cap-value portfolios, we're seeing more managers deployed so there are two or more in that class," he said. "Investors are taking conservative managers and combining with a higher-alpha manager."
These mixes create hedges in each asset class and soften the blow of bear markets.
"The biggest thing we're hearing from advisers is [that] emotional clients want more dialogue and portfolios that match their perspective," said Chris Rosato, senior vice president for strategic development at Curian. "Defensive strategies will perform differently, and it's suitable for those who can't stomach the volatility."
A defensive portfolio strategy from the company uses a mix of four managers on domestic equities to provide modest gains and smaller losses.
Even the savviest SMA holders still need some hand-holding and reassurance that by staying the course, they are setting themselves up for long-term success, said Linda L. Postorivo, chief investment officer at The Beringer Group in Radnor, Pa., which manages $3.4 billion.
"If you stay with a good solid
hedge fund strategy or a fixed-income alternative with bondlike returns and an allocation of 15% to 25% in the portfolio, you have negative market correlation that will shore up your volatility," she said. "We're not looking for anything too exotic; we want good strategies, good managers and a certain amount of fixed-income components."
Although those methods are intended to keep clients from drastically moving assets every time the equity markets bounce, Mr. Crager said, in cases where allocation has indeed changed, bearish managers have resorted to tactical asset allocation.
Short-term fixed-income vehicles — SMAs or exchange traded funds — have become more popular as a safe haven for investors as they become focused on defensive strategies, he said.
For advisers who work with SMAs, adaptation to consumers' demands includes finding new ways to help clients make the most of any losses they may face due to downward markets, such as tax loss harvesting — selling a security at a loss in order to offset
capital gains tax liabilities.
In the past, tax loss harvesting was limited to early December so that portfolio increases due to market gains wouldn't offset the tax benefits. However, investors now have the option of harvesting tax losses throughout the year.
It should be noted that there is a 30-day waiting period imposed by the
Internal Revenue Service's "wash sale" rule, which restricts a loss deduction through selling a security if an identical one was bought 30 days before or after the sale.
This is especially useful if clients pick up a great deal of gains in a given period during the year and can use harvested losses to offset taxes.
"We're a [certified public accounting] firm, so it means a lot to have that capability," said Keith Huff, president of Hollis Huff Lewis Financial Services LLC in Houston, which manages $104 million.
Large gains related to other assets, including the sale of real estate, can also qualify for trimming from a tax loss harvest.
Easier solutions that require investors to pick a strategy and stick to it have been the best way to get through market anxieties, advisers said.
"The most simplistic defensive strategies are the best," Ms. Postorivo said.
E-mail Darla Mercado at [email protected].
