For decades, investors have looked to mutual funds as a primary vehicle that can help them achieve their financial goals, such as retirement and college funding. However, mutual funds allow investors relatively little freedom in the management of their money within a given fund. Those who like a certain money manager's style in most respects, may wish that his or her funds were managed with a greater eye on tax efficiency, or in some other manner.
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Investors who purchase shares of a traditional open or closed-end fund have to take the bad with the good, in most cases, but a unique type of investment service has arisen that allows investors to mimic the trades of a specific manager, while making any changes that they like. Mirrored investment platforms are the newest entrant into the managed money arena. (For more on managers, check out Should You Follow Your Fund Manager?)
What Are Mirrored Services?
Mirrored investment services provide investors with the means of shadowing a given money manager before investing in the manager's fund. The companies that currently provide this type of service allow visitors to view the daily trades placed by dozens of different money managers. Those who wish to find out more about a specific money manager can receive real-time streaming quotes and other data, as well. Those who decide to invest with a given manager, after following his or her trades, can join the service and have the exact same trades placed inside their own brokerage accounts, in an identically proportionate manner. For example, if the manager places 2% of the fund's assets in a particular security, then the service will place the same percentage of the client's assets in that security.
Mirrored services differ from separately managed accounts in that those who use the former type of service are actually purchasing shares of a fund, instead of owning the actual securities directly. The minimum amount required to use a mirrored service is also usually much lower than for self-managed accounts.
Advantages of Mirroring Services
Investors who use mirroring services have a great deal more control over the trades that are placed inside their accounts than conventional fund investors. Mirroring services provide a level of instantaneous transparency that is not available with traditional funds. Investors can watch how their managers react to the markets in real time, instead of having to wait weeks, or even months, for a periodic report of fund holdings.
Perhaps more importantly, investors who use this service still have control over their accounts. They have the freedom to get rid of any holding in their portfolio if they choose to and they can even create a list of stocks, bonds or other securities that they do not wish to ever hold in their portfolios, such as those of companies that are not socially responsible.
Investors can also limit the trades placed by the manager according to other criteria, such as risk tolerance or investment philosophy. Investors can in fact compare themselves to their managers by trying alternative investment strategies that are based upon the manager's trades, but modified by the investor. If an investor thinks that his or her manager usually sells holdings too soon, then the investor can elect to keep each holding longer.
Most mirroring services also typically offer a wide range of managers with differing objectives and philosophies, ranging from conservative to aggressive, and varying with the type of securities that are held. Some managers may use derivatives extensively, while others stick to index ETFs. Furthermore, mirroring services are not required to limit the managers that they choose to Registered Investment Advisors or traditional portfolio managers; they are allowed to offer unregistered amateur managers that meet their criteria, as well. Of course, most services perform a thorough background check on the managers that they use and verify the manager's historical trading performance. (To help you keep your current account secure, read 9 Tips For Safeguarding Your Accounts.)
Limitations of Mirroring Services
Although mirroring services provide many benefits for investors, this type of service is still a small and growing field. The first mirroring service was introduced in 2009 and several more have sprung up since then. However, they have yet to make an impression on the consciousness of the general public; their limelight will likely have to wait until their managers can post historical track records of some duration.
The fees charged by most mirroring services are also relatively high, compared to mutual funds or other more traditional managed investment alternatives. Most investors will typically pay a mirroring provider anywhere from 0.5% to over 2% per year, in order to have the trades of a manager mimicked in their account, compared to an average of 1 to 1.5% charged by most funds, not counting any front- or back-end sales charges. Most of these services also require investors to open an account with a specific online brokerage service, with which they have an agreement.
Mirroring investment arrangements can make it possible for a portfolio manager to reap illegal profits from his or her money management, however. If the manager buys a holding in a personal account, before making the same purchase in the fund, then the price of that security could rise from the buying pressure created when that trade is mirrored in the accounts of all of the fund's investors. However, most of the major mirroring services monitor this sort of activity closely and place certain types of limits on trading activity, so as to discourage these practices.
The Bottom Line
Mirroring services are one of the newest concepts in the world of professionally managed investment accounts. They offer many benefits to advisors, but usually charge higher fees than traditional mutual funds, and may not catch on with mainstream investors until they can prove that their managers can outperform traditional funds, or benchmark indexes. For more information on mirroring strategies, consult your broker or financial advisor. (To help choose a financial advisor that matches you, see 7 Financial Advisor Red Flags.)