May 7th, 2013 (Gatekeeper IQ) — When it comes to rep-as-portfolio manager programs, distributors aren‟t the only ones doing the screening.
Such platforms, where advisors have full discretion and, typically, broad latitude in choice of products, are the fastest-growing segment of the fee-based universe. Yet managers say it sometimes pays to be picky about which distributors they target with their products.
[“Due diligence goes both ways,” says Robert Smith, president and chief investment officer at Sage Advisory Services, an Austin, Texas-based firm that specializes in exchange-traded fund-based strategies with $10.8 billion in assets. “You have to be careful of your partners.”] (1)
Assessing each relationship includes several important factors, including how advisors determine and set their fees, the support they receive in developing asset allocation, and whether the home office helps protect the ideas managers deliver in the models distributed to rep-as-PM advisors, managers and distributors say.
Attention to such issues gets increasingly important as such programs continue to grow. During 2012, assets in rep-as-PM programs ballooned by 34.9% to $544.5 billion, according to information from the Money Management Institute and Dover Financial.
“Rep-as-PM is here to stay,” says John Moninger, director of retail sales at Eaton Vance, who, before joining the Boston-based firm last October, served as executive VP of advisory and brokerage consulting at LPL Financial. “We [asset managers] can play an increasingly important role by making sure we are an active partner,” he says.
Capacity is one important part of any strategy both managers and advisors must understand, says Brian Hansen, president and chief operating officer at Confluence Investment Management. The St. Louis- based manager has $1.27 billion in assets under management and another $313 million under advisement, participates in wrap programs at Stifel and Baird, and has strategies available through Schwab, RBC, TD Ameritrade, UBS and Wells Fargo, according to regulatory disclosures.
Being able and willing to “turn off” access to strategies requires cooperation from the portfolio manager, who is focused on performance, and the sales team, focused on building the business to scale. Communication with the advisor long before the product gets close to closing is also important, says Hansen.
Another concern is that the platforms to which Confluence delivers its models protect the intellectual capital behind them.
“With rep-as-PM, you do not really know if [the end advisor is] looking to use you as a portfolio manager or looking to mine you for ideas to take back to their clients,” said Hansen during a panel presentation at the MMI annual meeting last month.
Advisors are under far more pressure to improve their margins today than they were when the bull market raged, he said. “There was not as much focus on every last nickel.”
Now, advisors look for ways to keep a bigger chunk of the overall program management fee charged to clients. One way to do that is to open small accounts with a strategist and then shadow that strategist‟s allocation more broadly across their client in their other portfolios, effectively skirting the third-party management fee.
A telltale sign of such behavior may be an advisor who opens a separate account with a few hundred thousand dollars but then neither adds assets nor liquidates the fund.
To help guard against such risks, Confluence is considering research-only models, in which the manager provides allocation recommendations but the advisor chooses the underlying holdings, Hansen said.
At Placemark, a turnkey platform and overlay management provider, advisors sign contracts that stipulate stealing manager ideas is a violation, says Erik Preus, executive VP for enterprise sales at the firm.
FolioDynamix, meanwhile, allows managers who so choose to have a say in which of the shops the turnkey provider supports that can offer the managers’ product to its advisors. Advisors who request models must first have money earmarked to fund them. If those dollars don‟t materialize relatively soon after the advisor gets access, FolioDynamix shuts off the information pipeline. The intermediary platform also reserves the right to audit any broker-dealer partner‟s records to weed out advisors who might not be playing by the rules. Advisors caught playing dirty risk losing access altogether, says FolioDynamix chief investment officer Shari Hensrud-Ellingson.
Such behavior is uncommon, say executives at both Placemark and FolioDynamix.
[“When you beam up models, you are taking it on faith that they are being distributed to those who paid for it,” says Sage‟s Smith in a subsequent interview. “You don‟t know how viral it goes.”
Some platforms – such as RBC and Cetera Financial – police advisor behavior to thwart would-be model mimics, he says. Sage also recently entered into a distribution deal with Merrill Lynch, as reported in sister publication FundFire.](2)
Perhaps a more common means of boosting margins for advisors is simply charging clients higher fees. Fees charged by advisors can vary wildly, particularly in the independent broker-dealer market, as reported. While the impact of those fees doesn‟t hit managers‟ bottom lines directly, they present a business risk nonetheless, says Sage‟s Smith.
[“I don‟t want to partner with the guy charging [his clients] 2%,” says Smith. And if they do, it‟s important for manager to understand why – and assess whether – the service to clients merits an above-average fee. “The regulators are watching. They are going to be asking, „Why do you charge so much more than everyone else?‟” says Smith. “I don‟t want to be part of that conversation.”
Pricing consistency is another concern. Some home offices allow advisors latitude not only in how they price their services, but in how they adjust those rates based on the specific client. “If the revenue base is erratic, I can‟t get on board with that mentality,” says Smith. His team works with advisors to consult onnpricing models. “You want to be profitable but consistently profitable,” he says.] (3)
Another concern with rep-as-PM programs is whether the advisors that participate in them truly understand asset allocation strategies. “On the sponsor side, if an advisor has that much flexibility, maybe they don‟t have a philosophy on the markets,” said Ed Foley, a director with Dimensional Fund Advisors, during a panel discussion at the MMI meeting last month.
Advisors‟ flip-flopping investment philosophies can translate into choppy flows for the managers they use, he said. The Austin-based quant specialty firm has long required all advisors, irrespective of the types of accounts they operate within, to undergo training before using their products. “Know who you are and what your skill set is, and you will find the investors you deserve,” said Foley.
Both managers and home offices have a vested interest in ensuring that advisors using rep-as-PM platforms have the fundamentals of asset allocation and portfolio construction down cold, says Eaton Vance‟s Moninger.
“That is a shared responsibility of the sponsor firm running the platform and the asset manager,” he says.
Managers should ensure advisors understand what to expect from their products in certain market conditions and how to approach for long-term needs, like preserving wealth, minimizing the impact of market volatility, managing for taxes or how to address a flat or rising interest rate environment.
Advisors also seek technology or systems that provide historical returns or other analytics that can help advisors build thoughtful portfolios. “It‟s being good educators on top of being good investment managers,” says Moninger.
By Hannah Glover
(1) Reference: http://www.gatekeeperiq.com/c/515311/57521/managers_flip_diligence_tables?referrer_module=emailMorningNews&module_order=3&cod e=
(2) Reference: http://www.gatekeeperiq.com/c/515311/57521/managers_flip_diligence_tables?referrer_module=emailMorningNews&module_order=3&cod e=
(3) Reference: http://www.gatekeeperiq.com/c/515311/57521/managers_flip_diligence_tables?referrer_module=emailMorningNews&module_order=3&cod e=
