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Next-Generation SMAs In Search of Next-Generation Solutions

December 17, 2007
By Chris Kentouris

Unified managed accounts (UMAs) are moving to the forefront of the evolving separately managed accounts (SMA) marketplace, presenting the wealth management industry with new operational challenges that will require technological innovations to overcome.

As a bellwether for SMA sponsors, industry experts point to an announcement in February by Merrill Lynch & Co.--the largest sponsor for such accounts--that it was restructuring its program to accommodate UMAs.

Boston research firm Aite Group expects that UMAs, which now represent 3 percent, or $26.5 billion, of the estimated $884 billion in assets managed through tax-efficient SMAs and multi-style portfolios (MSPs), will climb to 8 percent, or $117 billion of $1.5 trillion, by 2011.

UMAs, an extension of MSPs, can include almost every asset in an investor's portfolio--single stocks, separate accounts, mutual funds and even hedge funds. However, limitations in trading and post-trade processing have required allocations in fixed-income and foreign equities to be conducted through exchange-traded funds, mutual funds and American Depositary Receipts rather than directly.

By grouping a client's assets together instead of breaking them up across multiple accounts, UMAs make it easier to keep track of capital gains and losses and improve post-tax returns. Such account customization for risk and tax management purposes allows financial advisers to better address the needs of their high-net-worth clients.

SMAs are more complicated than UMAs because they have "many different managers trading many small accounts on lots of different sponsored platforms," said Randy Bullard, EVP of business development for Placemark Investments in Dallas. "UMAs reduce the number of moving parts because there is a single overlay manager that handles most of the complexity," explained Bullard, who spoke at a recent Financial Research Associates conference on UMAs in New York.

Financial advisers come up with asset allocation models for their customers, but responsibility for implementing the models with either the adviser or the sponsor who selects the investment managers, and overlay managers who watch over the investment process.

Sponsors include Wall Street wirehouses Merrill Lynch, Morgan Stanley, Citigroup's Smith Barney, UBS and Wachovia Securities, which together hold an estimated 80 percent of the assets in the SMA market. Banks and independent broker-dealers are also scrambling to gain a foothold. SunTrust Banks of Florida, for example, recently decided to shift about $30 billion in trust assets over to a new UMA platform--a move that could lead to substantial growth in the bank channel if duplicated by competitors.

Firms such as Placemark and Seattle-based Parametric Portfolio Associates--majority-owned by Eaton Vance Corp.--serve as outsourced overlay managers for sponsors, treating each client's portfolio differently based on changing investment objectives and the performance, risk and tax characteristics of the client's assets. The overlay manager is able to consistently apply trading and other restrictions across an investor's entire account.

Management Styles

Overlay managers typically apply an active, passive or hybrid model, depending on the role they want to play in the trading process. In the active model, which is the most common, all money managers send their investment models to the overlay manager to be implemented in client accounts. In a passive approach, money managers are responsible for trading their part of the client's portfolio. A hybrid model, which is finding increased up-take, splits the trading function between the sponsor and money manager.