How do segregated funds differ from mutual funds?
If your question is what's the difference between a separate managed account (SMA) and a mutual fund, there are a number of key differences.
1.) SMAs usually have higher minimums.
2.) In an SMA clients usually hold individual securities.
There are many other differences, but these are two major ones.
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Mutual funds are investment vehicles that many investors have embraced as a simple and relatively inexpensive method for investing in a variety of assets. Segregated funds are similar to mutual funds, but they possess some key differences.
On the surface, both investment vehicles represent a collective pool of funds that investors pays into. Another party makes the decisions regarding asset allocation and other investment-related choices. Furthermore, all financial assets within each fund are still owned by the organization that is managing the pool of investments, while investors own an interest of the assets.
However, this is more or less where the similarities end. Segregated funds are considered to be insurance products sold by insurance companies and, as a result, the governing bodies and regulations responsible for overseeing segregated funds are usually the same ones that cover insurance companies.
Another fundamental difference between segregated funds and mutual funds is that segregated funds generally offer a degree of protection against investment losses. For example, most segregated funds will guarantee around 75-100% of premiums paid (minus management and other related costs) in the event of maturity or the policy holder's death. This differs from mutual funds because in the unlikely event that all of the underlying stocks that make up a mutual fund become worthless, investors stand to lose all of their invested assets.
Segregated funds also have some other benefits relating to the death benefit portion of their policies. Beneficiaries of the policy will usually directly receive the greater of the guarantee death benefit or the market value of the fundholder's share. With a mutual fund, on the other hand, the market value of the asset is subjected to the same estate-related processes that other assets go through, which means it may take some time before any parties receive a payout.
In spite of their advantages, segregated funds are not without drawbacks. Due to all the extra bells and whistles that segregated funds offer, fees tend to be higher (on average) than mutual funds. Also, due to the guarantee against losses, segregated funds tend to be more restrictive about their choices for investments, leading to more modest returns.
Segregated funds are considered insurance products and can have a high opportunity cost. Mutual funds are multiple diversified investments. For an investor looking to maximize return and reduce risk, I would recommend a low-cost ETF portfolio.