Customizing Your Portfolio: Riding in a Limo or Taking the Bus!

If you’re an pre-retiree or retiree who is invested into mutual funds, no doubt you have given thought to how great it would be to customize your holdings to reflect your individual financial needs.

In fact, as you know, in mutual funds you don’t own any of the stocks in your portfolio. You own shares of stocks. They‘re in an asset pool. It means your mutual funds relinquish control to what and when mutual funds managers buy and sell securities in your portfolio.
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Separately Managed Accounts (SMAs), on the other hand, are portfolios of securities handled by a money manager(s) that your advisor and you select. From there, your assets are usually invested in a diversified group of stocks or bonds similar to mutual funds.

There is a major difference, however, similar to taking the bus (mutual funds) to riding in a limo (separate accounts.). Instead of being one of thousands of investors in a mutual fund, you own the securities in a SMA –and you retain the option of rebalancing your portfolio assisted by your advisor and the pre-chosen professional institutional money manager or managers.

In short, with a SMA, YOU own your own private mutual fund.

A separate managed account allows you to have a say over how the money manager(s) select and trade securities in the portfolio based on your predefined investment strategy. This includes trading moves to reduce capital gains taxes as SMAs can be highly tax efficient.

SMAs are like having your own private limousine, “ says Peter Cieszko, managing director of Salomon Smith Barney’s Private Portfolio Group. “Owning mutual funds is like riding the bus.”

You with a separate account have the ability to exclude specific holdings from your portfolio. If you already owns lot of tech stocks in other accounts, or if you retired or still work for a tech firm and much of your assets is already riding on company stock options, you with his advisor’s help can set up a filter that prevents the money manager from putting Microsoft or any other high tech stock into your account.

Lynn Mathre, president of Asset Management Advisors in Houston, has found local Compaq Computer Corp executives, have substantial holdings in their company’s stock, which they can’t or don’t wish to sell. To offset that risk, Mathre asks her SMA money managers to avoid buying Compaq securities and to tread lightly in the computer sector, as well. “You can’t do that with a mutual fund,” she says.

In addition, it’s possible you find certain industries offensive—tobacco, alcohol, gambling (the sin stocks), and nuclear power, whatever. If so, you can ask for stocks from those industries be barred from your portfolio.

In short, you have the right, with a SMA to include or exclude securities based on your ethical, economic or political views. This is usually not possible with most mutual funds.

It’s the flexibility of customization available to investors that is significant. If an individual has strong feelings regarding social responsibility, the environment, or faith-based values, he or she can implement those beliefs through their portfolios. On the other hand, such restrictions may not be as important for many. But that doesn’t mean you client not change your mind a year or two later — restrictions can be placed or lifted at any time.
In the past, many separate accounts looked alike as a result of limited investment style offerings, usually only large-cap growth or value were available. Customization is more common today as international, mid-cap and small-cap styles are commonly offered also allowing you to take advantage of greater individualization regarding asset allocation and other investment options (ETFs, mutual funds, hedge funds, etc).

Nevertheless, the customization of the portfolio and the ability for the client to restrict certain types of securities is often underutilized. There are no hard numbers on this but probably somewhere around 25 percent of SMA clients use this capability. Other industry sources have reported more than 25 percent.
Chris Davis, the executive director of the Money Management Institute, the association representing the separately managed accounts industry, expects use of the customization benefit to increase. “It’s a feature that will grow in use as a portfolio grows in size and the client’s needs also grow,” Davis said.
Davis compared the customization element with a four-wheel-drive SUV. “You don’t use the off-road feature all the time,” he said. “But when you do get off the road, you’re sure glad you have it.”
Knowing you have the option of customization in a SMA portfolio is an important benefit, as you no longer have your hands tied when it comes to making investment decisions within your specific account holdings. The separate account puts the individual and his/her advisor in control. You ride in a private limbo rather than with the crowd on the bus.

Mutual Funds vs. Separate Accounts
Mutual Funds:

• Your client does not own his stocks
• Your client does not own his stocks
• Your client’s assets is pooled with other investors
• Your client or you have no say in a specific fund’s holdings

Separate Accounts

• Your client owns his stocks
• Your client can buy and sell securities in his/her portfolio
• Your clients has the option to include or excluded stocks in portfolio

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