When The Mutual Fund Thrill Is Gone
Bad enough that your mutual funds lost 15% or 20% last year. Over the next few weeks, the real insult could come your way: a 1099-B form detailing your share of the funds' capital gains distributions. That's when you'll learn if you're going to take a big tax hit come April on funds that went south during 2000. That's also when you might consider an increasingly popular tax-wise alternative to funds: privately managed accounts.
Unlike mutual funds, managed accounts don't pool assets. You simply turn your money over to an investment management company--many of which also run mutual funds--and it builds a portfolio for you from a master list of stocks. As a result, you don't have to pay taxes on gains accumulated before you invested. And unlike a mutual fund, you have a say over when and how the manager makes tax-sensitive moves. Managed accounts 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."
Managed accounts have been around for years, mainly for high-net-worth investors. Now, increased competition and improved technology are making them an option for a greater number of investors. Minimum account sizes have dropped from more than $250,000 to as little as $50,000. Big brokers such as Salomon Smith Barney and Merrill Lynch still dominate the private account business, but now independent financial planners and even Internet upstarts are in the game. That has helped push the average account fee from 2.11% in 1998 down to 1.89% last year, according to Cerulli Associates, a Boston financial research firm.
Those fees may seem high compared to the 1.54% annual expense ratio of the average equity fund. But they're actually reasonable if you consider that managed accounts generally offer personalized financial planning and other services. And fees are usually negotiable: The more you invest, the lower the fee you can demand.
Managed account providers are getting more innovative, too. Salomon Smith Barney has pioneered "Multiple Discipline Accounts," or MDAs, which are a one-stop shop for a diversified portfolio. Just like mutual funds, managed accounts usually have a single investment style, such as large-cap growth or global investing. Even with a $100,000 minimum, an investor would need $400,000 or $500,000 to get a well-diversified portfolio. With MDAs, $100,000 gets a single account with a mix of investment styles. The MDA makes tax planning easier, too, as losses suffered by one of your managers can be used to offset gains earned by another.
PRICE IS RIGHT. For those who need advice but hate paying through the nose for it, independent financial planners may be a good solution. For instance, Louis Stanasolovich of Legend Financial Advisors (412 635-9210) in Pittsburgh worked out an agreement with CIBC Oppenheimer to manage private accounts for his financial planning clients. For a $250,000 minimum investment, clients get access to a top money manager and pay an all-in-one fee of 1.25%. The drawback to this approach is higher minimums and usually less choice of managers. But if you find one you like, the price is right. One way to find a planner-managed account program is to call EnvestNet (888 612-9300). The Web-based provider of managed accounts will not deal with you directly, but will refer you to an affiliated planner. Also, Charles Schwab plans to launch "Managed Account Select" at a lower cost to investors than the other major firms charge.
You can even find managed accounts on the Web yourself--and save on management fees (table). WrapManager.com gives you access to 53 money managers--including popular ones such as Navellier Management and Fred Alger Management. The minimum account is $100,000 and the fee an exceptionally low 1.25%. If you need some help choosing managers, you can call the site's financial advisers.
Another Web-based program is RunMoney.com. Its unique advantage is its access to the same managers as Lockwood Financial Services, the largest providers of managed accounts to independent financial planners. The minimum investment is $100,000, and fees start at 1.75% for the first $250,000 and decline from there. And Lockwood's managers also run accounts for the major brokerage firms. "The accounts are managed the same whether they come from RunMoney or Salomon Smith Barney," says Gordon Ceresino, a partner at Harris Bretall Sullivan & Smith, a manager both employ.
Clearly, if handholding is what you want, these sites are not for you. But for Web-savvy investors they could be ideal. Bill Tillman, a Lake Ozark (Mo.) developer who trades stocks online from his home, has $2 million invested through WrapManager.com. Previously, he was frustrated with both funds and managed accounts. With funds, "you wind up paying someone else's taxes," he says, but the fees on most managed accounts are "too high." WrapManager offered the best of both worlds: a private account with lower costs than most funds. As for financial planning advice, says Tillman, "I don't need it."
THE GOODS. Even if you don't need advice, you may want to see the records of numerous managed account managers before you select one. That's not easy to get, since private account returns--unlike mutual funds--are not normally released to the public. But a Web site, www.managerreview.com, does carry detailed performance data on these managers for an annual subscription of $295.
Despite these improvements, managed accounts are still not for everyone. Most experts think an investor should have at least $250,000 to get the proper level of diversification and the best pricing on an account. And even customization has its limits. Portfolio managers will work with clients on the timing of capital gains or losses, but you can't saddle managers with a lot of trading restrictions. Plus, managers rarely deviate from their preselected list of stocks.
The transition to a managed account program can be tricky as well. If you come with taxable mutual fund accounts, the manager will have to liquidate funds to reinvest. That could trigger unwanted taxable events. Turning over a portfolio of stocks can be a little less problematic because the manager may be able to work with some of the stocks you already own.
The ideal situation for starting a managed account is cash, perhaps from a bonus or a retirement account rollover. That way, your manager can create a new portfolio for you without a lot of constraints. Next time you get your hands on a bundle, you might think about riding in the investment limousine rather than packing into the mutual fund bus.