By Jayson Forrest
Mark Smith (Elston), Marc Hraiki (Lonsec), and Victor Huang (Milliman) take a look at the nuances of portfolio management in managed accounts, including risk management and asset allocation.
When it comes to the portfolio management of managed accounts, the case for Strategic Asset Allocation (SAA) and Tactical Asset Allocation (TAA) is well established. But what about Dynamic Asset Allocation (DAA) — which allows for frequent portfolio adjustments to respond to changes in market conditions — adding value to a managed account portfolio?
According to Marc Hraiki — Executive Director Adviser Sales and Service at Lonsec — it really depends on the manager. Speaking at an IMAP webinar on ‘Managed Account Portfolio Management’, Marc believes advisers should be asking the relevant model/investment manager to provide evidence around the attribution of their approach to DAA.
“With DAA, there is a need for a strong decision-making framework and processes for managers to adhere to, as it’s not easy to add consistent value from an active asset allocation perspective,” he says.
The Principal and Head of Investment Solutions Asia-Pacific at Milliman, Victor Huang agrees, adding that attribution analysis — how the performance of a portfolio can be attributed across various different asset classes and other factors (i.e. benchmarks) — is important. However, he concedes that although Milliman runs daily attribution analysis that breaks down the portfolio performance across a number of different levels, advisers don’t generally ask to see its attribution analysis. “But, there’s no reason why we wouldn’t share that with advisers if they’re interested in seeing it,” he adds.
Victor believes there is a place for DAA in portfolio management. Whilst Milliman’s approach to portfolio management is focused more on a passive approach, it does incorporate a dynamic element, which is achieved through risk management.
“Even though our approach is systematic and rules-based, DAA is achieved by dialling in and out of growth exposures, depending on the current market environment,” says Victor. “Being dynamic and active in that respect is crucial for strategies that are looking to manage sequencing risk or reduce the impact of market drawdowns. That’s because market environments can change quite rapidly, so you want to be able to respond to that.”
Marc Hraiki - Lonsec
Jaime Johns - Mason Stevens
Mark Smith - Elston
Victor Huang - Milliman
With DAA, there is a need for a strong decision-making framework and processes for managers to adhere to, as it’s not easy to add consistent value from an active asset allocation perspective
Portfolio liquidity and illiquidity
There’s no denying there is an increasing appetite by investors for access to illiquid investments, which is a trend Elston is mindful of, particularly in relation to running its managed account portfolios. However, one of the tenets of Elston’s investment philosophy is liquidity, says Mark Smith — Head of Adviser Services at Elston. This means it has a liquidity bias in its portfolios.
“We don’t believe illiquid assets are bad, but when you’re running a portfolio, particularly in managed accounts, the framework of illiquid assets can be challenging to manage with platforms. However, over time, we expect technology will increasingly improve to be able to handle that,” he says.
Historically, Elston has taken a core satellite approach to illiquid assets, where investors use its models as the core, and if they want illiquid assets, then running these assets as satellites.
“When it comes to liquidity, we believe clients should have access to their capital. However, we also acknowledge that there are some really good asset classes that are illiquid, which we will run outside the core as satellites,” says Mark. “We also use ETFs in our portfolios, but we generally only invest in ETFs that provide investors with a lot of liquidity.”
At Milliman, we’ve always approached managing risk very differently. We believe that managing risk should be done explicitly. So, rather than relying on the likes of correlations between different asset classes or on certain views expressed by individual managers or investment committees, we instead focus on a systematic and rules-based approach to addressing risk
Many ways to manage risk
According to Victor, there are many ways in which risk can be managed within a portfolio. He believes that most multi-asset managed account providers are professionally managed, and have well diversified portfolios that are systematically rebalanced, which helps to manage risk inside a portfolio.
Within Milliman’s managed accounts solutions, in addition to the usual level of risk management obtained through diversification, risk tolerance and rebalancing, Victor says Milliman also implements a systematic risk management strategy as a built-in feature within its portfolios.
“At Milliman, we’ve always approached managing risk very differently. We believe that managing risk should be done explicitly. So, rather than relying on the likes of correlations between different asset classes or on certain views expressed by individual managers or investment committees, we instead focus on a systematic and rules-based approach to addressing risk,” he says.
“We start with quantified numerical objectives, like stabilising volatility of a portfolio within a defined range or reducing the impact of large market drawdowns by a certain percentage. By starting with those objectives, we use a systematic or rules-based strategy to try and get us to those objectives.
“The flexibility of managed accounts does mean these types of risk management strategies can be overlaid within this structure in a very cost-effective manner.”
The transparency of managed accounts is fantastic. People can see where their capital is invested, which allows for better client/adviser conversations. These types of conversations will naturally continue to drive innovation and evolution within the sector, just as we’re seeing now with impact and ESG investing
Accessing direct global equities
Discussion about direct global equities being introduced into managed accounts continues to pique the interest of investors. Mark Smith says there are already managers using international equities, and he believes this will become more mainstream. However, he adds there is currently a cost issue with accessing direct global equities, such as accessing brokerage and currency risk, which have to be considered.
“Eventually, technology will remove these hurdles, making direct global equities more accessible in the managed accounts structure,” says Mark. “We run direct Australian equities in our models ourself but in terms of international equities, it’s not our skillset. So, we partner with good fund managers that operate in that space.”
Marc Hraiki agrees that cost is a significant inhibitor to accessing direct global equities, but adds there are many quality international fund managers that advisers can access.
“In terms of technology, being able to access international markets for direct individual holdings or ETFs, where there’s a much larger choice and cost benefits around international ETFs, a lot of platforms are thinking about how to deliver ‘fractionalisation’ to enable the holding of part shares to reduce that cost,” he says.
“However, currently, the minimum entry point to access an international-only managed account is quite high, which is a definite cost impediment for Australian investors.”
Before developing their own managed account offering, advisers need to identify and articulate their investment philosophy, and properly understand what they’re trying to achieve, because this is a difficult and expensive undertaking. They should also talk to other licensees and advice practices that have gone down this path, and learn from their experiences
Setting up a managed account
For advisers considering taking the next step and setting up their own managed account offering, Marc Hraiki says the first question they need to ask is: ‘Why do I want to go down this path?’
“Before developing their own managed account offering, advisers need to identify and articulate their investment philosophy, and properly understand what they’re trying to achieve, because this is a difficult and expensive undertaking,” he says. “They should also talk to other licensees and advice practices that have gone down this path, and learn from their experiences.”
Marc acknowledges there are scale and cost restraints to setting up a managed account. These include resources, expertise, platform and Responsible Entity requirements. In order to take this next step to set up a managed account, Marc believes the average funds under management needed to make this viable is about $150-200 million.
Victor agrees there’s a number of important issues that advisers and advice businesses need to first consider before setting up a managed account. This includes: who is the client target base; what are the objectives; defining those objectives; how to achieve those objectives; whether to go active or passive management; adding a layer of risk management; and who will manage the portfolio.
Importantly, for advisers thinking about embarking on this journey, Mark Smith says it’s essential to get everybody within the business involved in this journey.
“For an undertaking like this, businesses tend to have a champion, like the practice principal. But unless advisers and support staff are also on the same journey, the whole process will inevitably grind to a halt.”
Mark believes it’s essential that all stakeholders within a business fully understand why they’re going down this path, including the outcomes that will be achieved for clients and the business. He also adds to make sure you’re clear about your investment philosophy, whether it’s a tailored one you’ve developed or one that resonates with a manager you’re working with.
“We’re very big on transparency and communication. We do a lot of work around educating clients and advisers around the ‘why’ of the portfolio. This process should start before you move into a managed account. You need to explain why you’re moving into this structure, including outlining the benefits, to all stakeholders.”
The evolution of managed accounts
For any business, managed accounts are never a ‘set-and-forget’ strategy. Instead, it’s a constantly evolving area, as demonstrated by the take-up of Environmental, Social and Governance (ESG) investing.
Unlike managers, like Lonsec, that do have bespoke ‘sustainable’ portfolios, Elston has taken the approach of integrating ESG into its models. However, Mark Smith acknowledges that ESG does mean different things to different people.
“Having direct assets and the ability for advisers to have ESG conversations with clients is very powerful,” says Mark. “For example, if a client doesn’t like gambling, they can put an exclusion on a company like Aristocrat. Through our ESG integration approach, we look at all these factors, as well as the managers we work with.
“So, we’re not just reviewing ESG from, say, an Australian equities perspective, but we’re working with those external managers to make sure they are also adopting a similar approach to investing.”
Lonsec runs sustainable managed portfolios, which are supported across a range of platforms. According to Marc Hraiki, the portfolios have been designed to deliver capital growth and income via exposure to strategies that demonstrate strong ESG practices.
“Where possible, we look at impact investing, by investing in assets that align to the United Nations’ 17 Sustainable Development Goals,” he says. “Lonsec’s sustainable managed portfolios are a ready-made solution for advisers who want to access a vehicle in this space.”
Not withstanding ESG and ethical investing, Mark Smith believes managed accounts will continue to evolve. The focus on income, and generating sustainable income for clients in retirement, will continue to be a key driver of change in managed accounts.
“The transparency of managed accounts is fantastic,” says Mark. “People can see where their capital is invested, which allows for better client/adviser conversations. These types of conversations will naturally continue to drive innovation and evolution within the sector, just as we’re seeing now with impact and ESG investing.”
Victor agrees there will be further evolution of managed accounts in the retirement incomes space. He says APRA is already pushing superannuation funds to deliver members an ‘income for life’ strategy or offering.
In addition, Victor expects to see further advancement in areas like managing risk, such as market and inflation risk. “That might create an opportunity within managed accounts to see more risk-based solutions to help address some of that demand,” he says.
About
Mark Smith is Head of Adviser Services at Elston;
Marc Hraiki is Executive Director Adviser Sales and Service at Lonsec; and
Victor Huang is Principal and Head of Investment Solutions Asia-Pacific at Milliman.
They spoke on ‘Managed Account Portfolio Management’ as part of an IMAP Specialist Webinar Series on ‘Making a success of introducing a managed accounts program: Lessons from experience’.
The discussion was moderated by Jaime Johns — Non Executive Director at Mason Stevens.