Assessing the Adviser’s Role in Managed Accounts

September 15, 2014 ( – The role of financial advisers in the portfolio construction and management process is a topic of ongoing debate, says financial research firm Cerulli Associates.
New research from Cerulli finds that, after the global financial crisis, many advisers have sought to take greater control of client portfolios, which has accelerated the growth of adviser-driven managed accounts. But as researchers explain in the third-quarter issue of “The Cerulli Edge – Managed Accounts Edition,” the trend towards adviser discretion over managed accounts conflicts with what are generally considered to be best practices in designing a financial advisory firm of significant scale.

The report suggests that taking more discretion over client portfolios may be a helpful selling point for financial advisers who use managed accounts—both inside and outside the retirement planning context. However, the skills required to build and manage client relationships are distinct from those needed to successfully run portfolios, Cerulli warns. In other words, advisers may be limiting their growth potential and shouldering excess responsibility in taking discretion over clients’ managed accounts.

Scott Smith, a director at Cerulli, says this trend towards greater adviser discretion over client portfolios is also exacerbated by investment services providers’ general reluctance to push advisers to adopt centralized portfolio services. Smith says providers generally prefer greater reliance on centralized portfolio services, but fear offending their producing adviser forces.

“Given the limited supply of productive financial advisers, and the ease with which they can change firms, broker/dealers [B/Ds] often find themselves supporting advisers’ preferences that diverge from the firm’s long-term strategy,” Smith explains.

Cerulli’s research finds that increased reliance on centralized portfolio management options is logically correct, given that third parties entirely dedicated to portfolio management and optimization are likelier to better serve client needs than are advisers busy with many other tasks. But in practice this thinking is being trumped by the desires of advisers who prefer to maintain ultimate portfolio authority for clients.

“Beyond risk mitigation, there are also potential incremental benefits of developing robust programs to assist advisers in their portfolio construction and management process,” Smith adds. “Our research indicates that advisers typically spend 20% of their time on investment management duties, including due diligence, research and trading.”

Smith says that reducing the time advisers need to spend managing client portfolios allows more time for client-facing activities, such as prospecting and meeting new clients, which are highly correlated to increased revenues from additional asset gathering. Outsourcing investment management functions can also increase an adviser’s time to focus on things like investor/participant education and holistic lifetime financial planning, which are also commonly viewed as important value-add components in many advisers’ service models.

Cerulli says that currently about 61% of advisers across financial industry verticals favor managed account providers that allow them to maintain at least some discretion and flexibility over allocations in clients’ managed account portfolios. Similarly, 57% of advisers say they prefer to work with investment managers that allow them to go beyond general asset-allocation determinations and choose specific investments in client portfolios.

While asset management service providers are accepting this trend, Cerulli warns that the prolific growth of adviser-discretionary managed account programs is creating considerable consternation among these providers. The initial concern of providers is ensuring that their producing advisers adhere to a strict fiduciary standard and follow a disciplined process when it comes to managing their clients’ portfolios.

Cerulli says providers must be certain that all investment representatives make their best effort to serve their client portfolios to the best of their abilities. While this may be a relatively easy requirement for an independent registered investment advisory firm with a few producing advisers, the scale quickly becomes overwhelming for large asset managers with mandates coming from thousands of advisers, each potentially serving hundreds of clients.

Though there has been little in the way of formal regulatory actions, Cerulli says it has heard from several firms that regulators have recently been inquisitive regarding the performance of adviser-managed portfolios versus those outsourced for home-office management at a purely investment-oriented firm.

In response to their own concerns, several providers formalized or augmented their requirements for an adviser to participate in discretionary programs. Previously, many firms relied on an adviser’s experience or asset gathering success as a proxy for actual training on discretionary portfolio building, but this situation is changing as more firms implement portfolio management fundamentals curricula as a prerequisite for participation in adviser-discretionary programs. Cerulli considers the inclusion of such courses a necessity for positive client outcomes, even if simply as a baseline risk-protection measure.

Considering the litigious nature of society overall and the rapid growth of adviser discretionary programs, Cerulli says it seems likely that the next significant market downturn will be followed by an unprecedented wave of lawsuits from investors who expected their adviser’s skill and forethought to protect their portfolios from substantial losses.

Indeed, despite the variety of disclosures that investors sign, Cerulli suspects that many investors’ expectations will differ substantially from the outcomes they experience—something that is especially important to consider in the workplace retirement plan setting, in which investors are generally novices. To offer some protection for their advisers and the firms themselves, it is essential that each advisory firm’s training regimen and the portfolio oversight process are well-documented, Cerulli says.

Information on how to obtain the most recent edition of “The Cerulli Edge – Managed Account Edition,” is available here.