The Advantages of a SMA Investment Account

While mutual funds and ETFs continue to grow in market share, SMAs are gaining in popularity due to their unique benefits and changing trends within the wealth management space which can enhance the client experience. See the benefits of separately managed accounts through the lens of Zephyr, the optimal choice for a wealth management software solution. 

Starting back in 1924, mutual funds are the most widely used and oldest form of a managed account. A lot of the popularity in mutual funds can be contributed to employer sponsored retirement plans. Every 401k is comprised of mutual funds, so most individuals own some type of mutual fund. Meanwhile, ETFs are nipping on the heels of mutual funds in terms of popularity, as investors continue to look to low-cost investment solutions. Then there are Separately Managed Accounts or SMAs, which have traditionally been earmarked for institutions and ultra-high net worth investors. Believe it or not, SMAs have been around since the 70’s but have become more mainstream for retail investors in recent years.

Investing in some form of managed account is popular because it gives investors access to professional investment management teams. While mutual funds and ETFs garner more headlines and attention from financial advisors and their clients due to their accessibility. SMA investments offer their own unique benefits that should not be overlooked by all retail investors.

Advantages of separately managed accounts include an enhanced client experience and financial advisors have taken note of the inherent benefits of SMAs. Demand for SMAs from wealth managers continues to grow and this was evidenced by an industry-wide survey conducted by Zephyr in 2022. 67% of the responding wealth managers said they plan on increasing their usage of SMAs within client portfolios over the next 4-6 months. Furthermore, 30% of the responding wealth managers indicated their usage of SMAs within client portfolios will remain the same over the next 4-6 months.

The growing popularity can be attributed to the inherent benefits of SMAs. A lot of the benefits of SMAs come from the fact that investors take direct ownership of the underlying stocks, bonds or other types of investment which is unique compared to other managed account vehicles. With mutual funds and ETFs, the investor shares in the ownership of the pooled investment with other investors. An investor owns the right to a percentage of the capitals gains or dividends produced by the pool of investments rather than having direct ownership of the underlying investments.

Maybe the biggest benefit of an SMA is the ability to customize the underlying holdings. Due to the customization abilities, advisors can ensure a client’s values, goals and risk tolerance are met within a singular investment vehicle and gain the ability to create the best performing separately managed accounts for their clients.

The ability to customize the underlying holdings offers greater flexibility compared to investing in a mutual fund or ETF. SMAs provide investors with more flexibility in what they hold in the single vehicle, in fact, investors can invest in alternatives like real estate, managed futures, or private credit within a single SMA.

The ability to customize the holdings and the flexibility SMAs offer gives investors a greater sense of control which is very appealing to younger generations.

By directly owning the underlying investments whether it is a stock, bond or alternative, SMAs offer much more transparency for investors compared to mutual funds and ETFs. Infact, you always know exactly what you are holding within an SMA.

Arguably one of the biggest benefits to investing in SMAs is the potential tax efficiencies. Investors in SMAs have greater opportunities to incorporate tax strategies like tax loss harvesting because the investor directly owns the underlying securities. Reducing one’s taxable income is very attractive, especially for high net worth individuals.

Another benefit to investing in an SMA is that 100% of your investment is invested in the underlying securities. Whereas with mutual funds, a certain percentage of your investment will sit in cash to cover fund redemptions. That is not the case with an SMA investment account. Because you have direct ownership of the underlying securities, you can have the asset manager sell specific securities to raise cash, etc. Furthermore, the redemption of a mutual fund happens at the end of a trading day, whereas if you want to sell the underlying securities of an SMA, it happens during the trading day which provides additional liquidity.

There have been some recent trends in the wealth management space that have also helped boost demand in SMAs.

While mutual funds are appealing to a lot of investors due to their very low minimum investment requirements, SMAs have been hindered due to the very high minimum investment requirements, sometimes as high as $1 million. Well, those requirements are starting to shrink, as fractional shares have started to take place, resulting in lower investment requirements.

Additionally, the ballooning interest in alternatives has helped boost demand for SMAs. SMAs allow for greater flexibility to invest in less-liquid investments like private credit, real estate, managed futures and other alternatives versus traditional managed investment vehicles like mutual funds and ETFs.

More and more surveys show that wealth managers spend less than 30% of their time on investment management. The outsourcing of the practice’s investment management is becoming increasingly popular which adds to the appeal of SMAs. By outsourcing investment management to an asset management firm, advisors can spend more time cultivating and building lasting client relationships, which is a more valuable task than searching for individual stocks and always keeping an eye on daily market moves. More and more wealth managers are turning to asset managers to manage their client’s investment portfolios through SMAs or model portfolios which is a form of SMAs. Wealth managers are either having asset management firms manage the entire investment portfolio based on the client’s risk tolerance or incorporating multiple asset management firms to manage a different sleeve of the investment portfolios.

While mutual funds and ETFs continue to grow in market share, SMAs are gaining in popularity due to their unique benefits and changing trends within the wealth management space which can enhance the client experience.

More: Strategies for Wealth Management, Wealth Management Trends