Advisors may be better off employing third-party asset managers than going it alone, according to a new study by Envestnet.
Portfolios managed by advisors tend to be more volatile and unpredictable than those managed by third-party strategists, according to Chicago-based Envestnet | PMC.
“Advisors have different biases and ways of managing portfolios for their clients, and they’re probably following trends too much and failing to abide by an investment process,” says Brooks Friederich, senior vice president and director of fund strategist portfolios at Envestnet | PMC. “With fund strategist portfolios, advisors can offer a more consistent approach.”
The conclusion was based on performance dispersion, which tracks the range of performance across funds or managers, typically using the statistical measure of standard deviation to signify the variability of returns. A high standard deviation indicates a greater variability of returns.
The best-performing advisor portfolios outperformed the best-performing strategist portfolios every year from 2014 to 2016, according to Envestnet. Overall, however, advisors underperform more often than strategists, according to the study.
“Back before the big adoption of mutual funds, most people dealt with brokers who would pick out some stocks for them, and some were good at doing that, and others weren’t,” says Friderich. “Today, the advisor is picking out mutual funds or ETFs and is trying to do due diligence on these products. It’s the same problem: Some are good at doing it, some aren’t.”
Overall, advisor-managed portfolios exhibited twice the volatility of strategist managed portfolios: While advisor portfolios posted a 3.2 percent standard deviation, strategists posted a standard deviation of 1.6 percent.
In other words, the performance of advisor-managed portfolios more closely resembles the unpredictable returns of a hedge fund or managed future strategy, while the performance of portfolio strategists more closely resembles the more predictable performance of a large-cap index.
“Some clients are going to want a more aggressive approach that maximizes potential returns,” says Friederich. “That gets back to the value proposition of a financial advisor, to coach them through volatility and the bigger market declines their portfolios may experience.”
Friederich said the overperformance in advisor-managed accounts could be due to being overweight in an asset class, style or factor without the drag of out-of-favor assets.