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Benefits of separately managed accounts

August 02, 2021 | Cooke Financial Group

Benefits of separately managed accounts

There are many options in the market when it comes to investing your savings.

If you have a background in finance and understand the markets, then you may very well create your own portfolio custom tailored to your financial goals. Most people, however, do not have high knowledge levels about financial products and markets.

This is where investment managers and/or financial advisors come into the equation. People can seek their services, discuss their financial goals, and rely upon the investment managers to advise them about appropriate investment options.

Out of a plethora of investment options available in the market today, there is one called the “Separately Managed Account (SMA)”.

This is an investment option generally accessible only by high net worth (HNW) and ultra-high net worth (UHNW) individuals/families/institutions. SMA accounts usually have a high minimum deposit limit that may be $1 million or more. But before we get into the intricacies, let’s start by understanding what a SMA is.


What is a Separately Managed Account (SMA)?

A separately managed account is an account or group of accounts in which an asset management firm acts as the investment advisor or investment manager to an investor and builds a portfolio for that investor.

The account is custom tailored to needs of that individual investor and solely owned by that investor. It is not commingled with any other investor’s funds. The money manager is responsible for investing all or a portion of the assets in the account according to the investor’s investment goal. The investment manager should use an investment strategy designed to meet the investment goal of the investor.

A separately managed account is an investment vehicle combining the best elements of a mutual fund and a separately managed portfolio. Diversification and professional management are part of both methods, but a separately managed account can also be tailored to the unique needs of the investor.

In a mutual fund there are many investors and there is no customization for the benefit of any single investor. The fund is more of a passive investment vehicle with a pre-determined investment strategy that is managed by a professional portfolio manager. The SMA is potentially more active and may add tax management, ESG characteristics, or specific portfolio additions or prohibitions that relate to its owner’s specific needs.

Most banks, wirehouses, RIA’s, and other investment managers have hefty minimum’s between $50,000 and $100,000 to more directly target high net worth individuals. Using primarily SMA accounts for those individuals often raises those minimum relationship sizes to $500,000 or $1 million.

An investor with three or four SMA accounts (ex US stock, International stock, Bonds) may have to meet account minimums for every single SMA manager.  Total required funds are significant when created a well diversified portfolio. 

Again, separately managed accounts are different from mutual funds and basic brokerage accounts. The funds in a separately managed account are owned, controlled, and managed on behalf of a single investor.  A mutual fund may have many different owners with very different goals and objectives.  These individual needs are not considered in the management of the fund.   

How does a Separately Managed Account work?

The investment manager of the account will typically select the assets in the account and will make the investment decisions based on the financial and investment goals of the investor/owner of the SMA. The investment manager will have the authority to make trades in the account.

The separately managed accounts can comprise any asset class including:

  • Cash

  • Bonds

  • Stocks

  • Any other investment asset

The fee structure of smaller SMAs is often higher than that of a mutual fund because of an SMAs personalized investment choices and extra services on behalf of the investor/owner. However, the SMA fee is often a declining % fee as the asset size increases.

In other words, the asset % fee charged goes down as the value of the portfolio rises. There is a point at which many SMAs become cheaper than a corresponding mutual fund!  This point is often reached on multi-million dollar portfolios, but infrequently on portfolios less than $1 million. 

What are the benefits of Separately Managed Accounts?

Separately managed accounts come with numerous benefits:

  • Industry Experience: The investment managers are professionals with years of experience, they have specialized industry knowledge of various asset classes and investment options that may be suitable for you.

  • Strategy Based Investment: Investment managers follow tested strategies and industry knowledge instead of guesswork. This strategic focus reduces overall risk and makes attaining financial goals more likely.

  • Greater Customization: Investors have significantly greater control over their investment by actively engaging with the investment manager.

  • Greater Diversification: Investors can sometimes achieve a higher level of diversification compared to a mutual fund or a 401(K) which may only support limited asset classes.

  • Tax Efficiency: SMAs allow investors to offset the capital losses against capital gains by using individual securities within the account. The loss on the sale of a one security can offset the capital gains tax due on a different sale, thus reducing overall tax liability. Assets in SMAs are only taxed on net realized gains, which frequently gives them an edge over mutual funds.

  • Transparency: Investors get regular reports (up to daily!) of how and where their funds are invested down to each individual security.

  • Values Based (ESG) Investment: Due to the customization offered by SMAs, investors can invest in companies they feel ethically beneficial, and prohibit securities from disfavored segments of the economy.  This creates significant values based investment outcomes.

  • Higher Returns: A significant benefit of separately managed accounts is the potential for higher returns due to the customization for a single investor/owner.

What are the drawbacks of Separately Managed Accounts?

There are however a few drawbacks with SMAs:

  • Higher Risk Possible: The possibility of higher returns may also carry the possibility of higher risk levels. Every investment has a risk-reward relationship. Mutual funds generally will not incur as much risk because they have multiple investors and multiple risk tolerances they must consider. But since SMAs are personalized investment vehicles, there is no limit to the risk that you can take.

  • Due Diligence: Due diligence itself is not a risk but if the investors do not carry out proper due diligence while searching for an appropriate investment manager or a professional asset management firm then they may encounter the risk of having a poor investment manager. Researching and confirming the professionalism, competency level and the experience of the investment manager is a necessity.

  • Entry Barrier: Most if not all SMAs have a minimum investment limits exceeding $50,000. This creates an entry barrier for individuals with savings below the minimums. Minimum investment sizes generally make SMAs an option only for higher net worth individuals.

  • Fees: The fee structure for SMAs may be high as compared to mutual funds as discussed earlier (typically on smaller SMA portfolios).

  • More Work: While mutual funds are more passive investment options, SMAs are more active vehicles and there is more work involved. From initial due diligence to the choice of investment assets and monitoring performance, there is more effort to an SMA. Even though the investment managers act as consultants, the investor should routinely discuss the investment strategy, financial goals and monitor the progress of the account. 

Is a Separately Managed Account right for me?

The bottom line is separately managed accounts are usually best for individuals who are looking for greater control, diversification, and customization of their portfolio.

SMAs may not be the best choice for everyone but those who prefer more control over how their funds are invested frequently find SMAs a suitable option.

Again, appropriate due diligence and finding the best run SMA accounts is important. Assess the performance, experience and investment ideology of a number of asset management firms before you engage one.

To learn more about Cooke Financial Group's services, please visit our About page.

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