Introduction To Multi-Discipline Accounts

By James E. McWhinney AAA

Separately managed accounts (SMAs) offer a host of benefits for affluent investors, including the ability to minimize capital-gains tax liability through tax gain/loss harvesting and customize portfolio holdings, but building a diversified portfolio with traditional SMAs also presents a variety of challenges. To address these challenges, managed-money pioneer Smith Barney created the Multiple Discipline Account®. Other leading financial services firms quickly created their own version of this product, which became known as a multi-discipline, or multi-strategy, account. A comparison between traditional separate accounts and multi-discipline accounts highlights the features and benefits that multi-discipline accounts provide.

SEE: Separately Managed Accounts: A Boon For All

How They Came into Being
The ancient Greek philosopher Plato wrote, "A need or problem encourages creative efforts to meet the need or solve the problem." With SMAs, the problems arise when investors seek to build a diversified investment portfolio. For example, say an investor seeks to build a portfolio of 50% equity investments and 50% fixed income. To construct this portfolio using separate accounts, the investor would need to open two accounts - one managed by a money manager specializing in equities and the other managed by a money manager specializing in fixed-income instruments. With most separate accounts requiring a minimum investment of at least $100,000, the investor is likely to need at least $200,000 to construct this portfolio.

SEE: Time For A Money Manager Check-Up

Should the investor wish to construct an even slightly more complicated portfolio, such as one that divides the equity portion into equal allocations of large-cap and small-cap holdings, additional money managers are required. This creates further complications because each manager has a required investment minimum of $100,000. If the investor allocates $100,000 to each of the equity managers, an additional $100,000 will need to be allocated to the fixed-income manager in order to maintain an overall balance of 50% equity investments and 50% fixed-income investments. The minimum investment requirement to create this portfolio is now $400,000. Increasingly complex portfolios further increase the required investment minimum to levels that are out of reach for many investors.

Portfolio Management
In a relatively uncomplicated portfolio, such as the 50/50 equity to fixed-income investments example, meeting the investment minimum is the primary hurdle. In a portfolio that includes a broader mix of investment styles, an additional challenge arises. Because separate accounts are, well, separate, there's no coordination between the money managers. Each manager conducts trades without regard to the activities of the other managers. This can result in a duplication of holdings and may even result in one manager buying a certain security at the same time another manager is selling it. The lack of coordination between managers may also result in adverse tax implications. With each manager acting independently, there is no coordinated, strategic realization of gains and losses across the portfolio as a whole.

SEE: Separately Managed Accounts: A Mutual Fund Alternative

Performance Reporting
In a traditional multi-manager separate account portfolio, separate performance reporting information is provided for each money manager. In this scenario, it can be difficult to determine the overall portfolio performance. Reviewing the portfolio's holdings is also inconvenient, particularly when there are a significant number of managers in the portfolio and holdings overlap.

How They Work
Multi-discipline accounts offer all of the benefits of a diversified, multi-manager separate account portfolio but without any of the associated challenges. The accounts provide access to the same level of investment management expertise and portfolio management strategies that traditional SMAs offer, but the minimum investment requirement to create a diversified portfolio is significantly less.

The majority of the assets in a multi-discipline account are generally managed exactly like a traditional SMA, with money managers buying and selling individual securities on behalf of a specific investor. A single money manager, known as an "overlay manager," coordinates the trading across the entire portfolio and provides automatic portfolio rebalancing to maintain the desired asset allocation. Just as in a traditional SMA, investors have the ability to customize the portfolio by providing instructions to avoid investing in specific securities and/or industry sectors.

Unlike commingled investment products, such as mutual funds, each investor has an individual cost basis on the securities in the portfolio. Individual cost basis provides the ability to conduct trades designed to minimize the impact of capital gains taxes. Some multi-discipline accounts include mutual funds and/or exchange-traded funds as a small portion of the account. When this is the case, investors do not have an individual cost basis on the underlying securities held in the portion of their portfolio that is invested in these instruments.

SEE: Building An All-ETF Portfolio

Preselected asset allocation models provide access to a full spectrum of common asset allocation selections (such as an 80/20 equity to fixed income, 60/40 equity to fixed income, 50/50 equity to fixed income, 40/60 equity to fixed income, etc.). Many of the portfolios divide the equity and fixed-income portions among multiple investment managers, with each manager specializing in a specific discipline. The portfolio's overall performance is tracked on a single, consolidated performance report.

The Bottom Line
Multi-discipline accounts give access to a professionally managed, multi-manager SMA portfolio with a clearly defined investment strategy and an affordable minimum investment requirement - some as low as $10,000, $25,000 or $50,000 to as high as $150,000. The accounts offer a conveniently packaged, flexible, customizable investment tool in a single, fee-based account. This combination of features and convenience has helped multi-discipline accounts become one of the fastest-growing segments of the managed-money industry.

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