What is a Separately Managed Account?

Separately managed accounts are investment portfolios comprised of individual stocks and/or bonds owned directly by an investor(s). For diversification purposes the portfolio could hold, at any given time, anywhere from forty to sixty stocks and ten to thirty bonds depending on investment objectives.

A separately managed account is professionally managed by one or more portfolio managers. Advantages to a separately managed account include increased tax efficiency, heightened asset control, and lower fees leading to higher performance

What is a Mutual Fund?

Mutual funds have fueled the fortunes of many during their working lives and retirements since 1940, when the SEC founded the Investment Company Act that created the concept of putting multiple stocks and/or bonds into funds. Mutual fund investors are shareholders in a pool of securities. They do not hold stock in their own names which creates an opportunity for average Americans to invest like those with greater financial resources.

Three major reasons to use mutual funds:

Diversification – Mutual funds have the ability to diversify any size portfolio.
Access to a professional portfolio manager – Mutual funds have one or more professional portfolio managers for every fund.
Retirement Preparation – Mutual funds serve a significant role for investors accumulating wealth in retirement accounts.

Similarities Between Separately Managed Accounts and Mutual Funds

Mutual funds and separately managed accounts have two main similarities.
Diversification
Access to a professional portfolio manager

Overlooked Attributes of Separately Managed Accounts

Controlling Your Tax Liabilities

If controlling your tax liabilities is a key aspect to your financial situation, mutual funds may not be the best option for you to invest in.

In mutual funds, investors are shareholders and have no control over the taxation of their funds. This can create huge capital gain problems for investors because all gains must be distributed, while losses cannot.

For example, consider a mutual fund that has been around for 20 years. If an investor were to buy its shares last year and the fund sold stock this year that it had held since 1990, that investor could be subject to taxes on huge embedded capital gains even though he/she was not an investor in the fund when the shares were purchased.
Unlike mutual fund shareholders, separate account investors hold stocks in their own names. Separate account managers perform “tax harvesting,” offsetting gains with losses to deliver a higher after-tax return than mutual funds for their clients.

Customization and Asset Control.

At any given time, a shareholder in a mutual fund has no idea what securities he/she holds. The investment is pooled with other investors within the fund, and the shareholder has no say in the fund’s holdings.

With a separate account, each individual investor has a portfolio customized to meet investment goals and objectives. A professional money manager buys and sells securities, creating a portfolio of specific assets, according to an individual’s profile. The investor has a say in what securities he/she would like to own.

Expenses/Cost

Many investors underestimate the importance of low fees when investing. High fees can adversely affect long-term performance, and most mutual fund shareholders do not recognize the high costs involved with mutual funds.

In the average mutual fund, the expense ratio averages 1.6 percent per year; sales charge, 0.5 percent; turnover-generated portfolio transaction costs, 0.7 percent; and opportunity costs – when funds hold cash rather than remain fully invested in stock – 0.3 percent. The average mutual fund investor loses 3.1% of his investment returns to these costs annually. (Rutner, Richard. The Trouble with Mutual Funds. 2nd ed. Elton Wolfe Publishing, 2002. 58.)

Making The Right Decision

Mutual funds are a great way to safely diversify your funds while growing them, especially in retirement plans.

Separate accounts offer advantages when it comes to tax considerations, customization and expenses. They offer the opportunity to create a portfolio of specific assets.

McLaughlin Asset Management, Inc. utilizes both mutual funds and separately managed accounts; however, many investment advisors ignore the advantages of separately managed accounts.

We feel it is important to understand the attributes of both in order to determine what investments suit each individual’s investment profile and objectives.