The individual sub-portfolio sleeves of MDAs are discreet investment portfolios with managers assigned to each sleeve who are responsible only for handling their particular portion of the overall portfolio. For instance, in the "U.S. Equity-Large Cap" offering from SSB, the sleeves are Large Value, Large Growth and Large Blend.
To combat potential "wash sale" issues-such as one manager buying a security from another within the MDA-firms like SSB designate one manager to oversee the entire MDA investment strategy. This overlay portfolio manager typically does most of the heavy lifting for the MDA and reviews and executes aggregate trades for all the portfolio managers running money in a particular MDA. Typically, the individual portfolio managers do not have access to the holdings of the other portfolios, so the overlay portfolio manager serves an important role in maximizing tax-related issues.
The Future
The fourth generation is already in development, although no MDA with these characteristics is in the marketplace yet. With this variation, the sponsor would do packaging, but could leave some asset allocation and ultimate portfolio-management selection to the financial advisor. The vision is that each MDA would use multiple external investment-management firms and the advisor would pick from a short list of names for each piece of the MDA asset-allocation pie. The advisor also might be able to vary the asset allocation a bit.
Important Considerations
MDAs clearly are filling a void in the product matrix of major distribution firms, providing a fee-based solution for clients and intermediaries when both otherwise might have to settle for more traditional retail investment products like mutual funds. The introduction of SMA products to these audiences poses some interesting challenges, including asset retention and the MDA sales process.
The most important reality of the MDA with which firms must become comfortable will be the lower asset-retention characteristics of these products vs. traditional SMAs. The main reason SMA assets are attractive to investment firms, despite fees as low as 35 to 38 basis points annually, is their historically low annual turnover rates, which have been estimated at as low as 10%. Investment managers have been able to make the slim financials on traditional SMAs work because of the incredibly long time investors hold on to them.
But for a firm to develop or participate in an MDA, the planning and decision-making process must assume these products will have retention rates that will likely mirror the three- to four-year period we see in the mutual fund world today, not the more favorable retention characteristics of current SMAs.
The packaging of MDAs that makes them more attractive and appropriate for lower-level investors could be seen as threatening by the very intermediaries who consider these products for their clients. With manager screening and selection and the asset-allocation mix of multiple managers done by the MDA sponsor, where is there sufficient room for an intermediary to add value to the sales process?
We believe that many mid-level advisors at major distributors will perceive the MDA as a real threat to their livelihood. As these products become more like turnkey asset-management solutions for lower-level clients, advisors will push back. In a replay of the asset-allocation mutual fund evolution, MDAs may ultimately find limited appeal in more direct distribution channels, including retirement-plan accounts.