Separately Managed Account (SMA) Basics

While working with a financial advisory company, you may come across many types of accounts and services. One of the most common is a separately managed account (SMA). This is a discretionary arrangement where a firm builds a customized portfolio made of individual securities.

This article will thoroughly explain what a separately managed account is and which types of clients they’re ideal for. We’ll also detail their associated costs and fee structures as well as their differences from other investment vehicles such as mutual funds. Finally, you’ll learn about their benefits and disadvantages.

What Is a Separately Managed Account?

An SMA, or managed account, is a personalized portfolio managed by a registered investment advisor (RIA) firm. They’re typically available to high-net-worth clients, with minimums starting at $100,000 in investable assets at many firms. SMAs often carry an explicitly defined and targeted strategy and comprise individual securities such as stocks and bonds.

When you open an SMA, your investment manager usually exercises discretionary control. This means they have the authority to execute the vision and make trades on your behalf without your direct approval. If your manager decides that a particular investment aligns with your portfolio, they can add it at will. Conversely, they can sell a security if they believe it doesn’t fit. Though actively managed by an expert or a team of them, all investments within the account belong to you and remain part of your portfolio.

A critical characteristic of SMAs, as noted, is that they’re highly customized. Before setting up an account, you’ll meet one-on-one with an advisor who will assess details about you to decide on an ideal asset allocation strategy to recommend. This may be information regarding your goals, time horizon, and risk tolerance. Then, they’ll draft an investor policy statement (IPS), concretely outlining your strategy and goals. This will, in large part, dictate how they build and invest within your account.

How Much SMAs Cost

Separately managed accounts at advisory firms commonly use an asset-based fee structure, where you pay a monthly, quarterly, or annual fee that depends on the value of the assets under management (AUM) in your account. Depending on the company, costs may be negotiable and can vary significantly by factors such as account size and needs. Many advisors also use a tiered structure, where your fee may decrease or increase as your AUM grows.

Beyond advisory fees, separate accounts also carry costs related to managing your account, including expenses such as brokerage fees and transaction costs. Often, however, companies will offer an SMA with a wrap-fee. This combines, or wraps, additional costs with the fees you pay to maintain an account.

If you’re considering opening an account with a company and want to learn about the fee structures it uses, the best place to look is Part 2A of its Form ADV. This includes detailed information about a firm’s fee schedules and services. Some companies link to it on their website, but you can also find it by looking up the advisor on the SEC’s Investment Adviser Public Disclosure (IAPD) website.

Differences Between SMAs and Mutual Funds

It’s not uncommon to see SMAs compared to pooled investment vehicles such as mutual funds. This is because they both involve investing in a specific and diverse allocation of assets. They’re also managed by a team of experienced professionals. Even so, the two differ in many aspects, including ownership, flexibility, and transparency.

A core difference is that mutual funds are pooled and involve many investors owning shares, giving you returns proportionate to the shares you own. Conversely, SMAs are wholly owned by you, meaning you’re the sole person who reaps the rewards of your portfolio’s performance.

Because you own your SMA, you benefit from having a strategy customized to you and your needs, including tax efficiency. With mutual funds, on the other hand, the managers set the focus and are the only ones who can change it.

The final difference involves the transparency of the securities within each vehicle. In a separately managed arrangement, you can ask your advisor for performance reports or detailed information about your holdings. Since you’re the owner, you have the right to this information. As an investor in a pooled fund, it’s much harder to get your hands on details about the holdings at a moment’s notice.

Pros and Cons of SMAs

SMAs are beneficial in several ways, especially with their personalization and professional management. However, they can also have their drawbacks. For example, they can come with high account size requirements, making them inaccessible to those with fewer assets.

Below are their notable benefits and drawbacks:

Pros

• Maintain ownership. Unlike pooled vehicles such as mutual funds and ETFs, you own the assets within your account.
• Personalization. SMAs involve meeting with an advisor and creating a tailored portfolio strategy, meaning your account suits your needs.
• Defined focus. Along with your goals, managed accounts usually have a clear investing focus. Allocations may include environmental, social, and corporate governance (ESG), equities, and bonds.
• Professional expertise. A highly skilled manager or team of experts work on your portfolio and ensure your strategy comes to fruition.
• Tax optimization. Firms often use strategies, like tax-loss harvesting, that help you optimize your taxes.

Cons

• High minimums. Account thresholds for SMAs can begin at $100,000 AUM and may reach into the millions for some firms, making them inaccessible to many prospective clients.
• Cost. Fees can be high, especially if the firm charges more for managing substantial assets. You may also face trading and brokerage costs if the company doesn’t use a wrap fee.
• Can be limiting. While it can be advantageous to have an account with a particular allocation strategy, you may prefer to have more varied exposure to different assets, sectors, or regions. However, because SMAs don’t hold ETFs, mutual funds, or index funds and only include individual stocks or bonds, this can prove difficult.

Frequently Asked Questions

Do separately managed accounts always use wrap fees?

Not every company uses a wrap-fee structure for SMAs. Some firms may only charge you an AUM fee for their professional portfolio management expertise but may also require you to pay additional costs related to your account. Even so, it’s common for RIA companies to use wrap fees. This is because as it manages your investments, all additional costs fall into one, cleaner end price.

What types of companies offer separately managed accounts?

SMAs are generally available through investment advisory firms. These companies may exclusively offer advisor solutions or be larger financial services businesses with a portfolio management branch.

Below are some well-known companies that offer these types of accounts:

• Ameriprise
• Charles Schwab
• Fidelity
• J.P. Morgan Wealth Management
• LPL Financial
• Private Advisor Group
• UBS
• Wells Fargo Advisors

What tax-efficient strategies do separate accounts use?

Portfolio managers of SMAs often use strategies that enable you to minimize or optimize taxes wherever possible. The most common is tax-loss harvesting, which is a strategy that offsets capital gains tax. The exact methods, however, will depend on your circumstances and objectives.