Everyone is getting into the game of creating their own fund. St James’s Place (SJP) and Old Mutual have been doing it for years. Heather Hopkins, MD of NextWealth, this week tells us why Discretionary fund managers (DFMs) and large IFAs are jumping on the bandwagon now too and why this should matter to advisers.

Are Segregated Mandates: Another bite at the apple?

Wealth managers, large financial advice firms and DFMs are creating their own funds using segregated mandates or sub-advised funds. A segregated mandate is a fund run exclusively for a client, typically an institution (such as SJP or True Potential). But asset managers typically earn far lower fees on segregated mandates than for pooled funds.

Adviser turned manufacturer

Should you launch your own range of Oeics as a way to grab a slice of the action while saving your clients money? Maybe. But you are going to need scale and good oversight.

Wealth managers, looking to capture additional value and bring down costs for clients, began launching their own funds around a decade ago. The trend has accelerated in recent years and the rate of growth is picking up.

The main driver has been financial, in terms of both cost and profit. Large vertically integrated wealth managers are able to access investment managers for a fraction of the cost of buying an off-the-shelf Oeic. The wealth manager takes a fee to manage the investments, adding to their profit margins.

Asset managers typically will not offer a segregated mandate for less than £50 million. To put the scale in context, the biggest SJP funds have more than £1 billion in assets.

If your advice firm has £30m in UK equities, you might be able to get a manager to run a segregated mandate for you. You will likely need to pay around 60 basis points, as £30m is a pretty small fund. The question is, can you add your own charges on top of that for all of the client reporting and admin for the Oeic structure and still make money?

One wealth manager I spoke to recently said the firm’s fixed costs were around £2 million for the oversight and administration of the funds. This includes the headcount costs for a compliance director, the transfer agent, transaction costs and reporting costs. Estimates vary, but many believe a wealth manager needs £10 billion to £15 billion to run its own funds.

As an advice firm, if you can’t offer the fund at a lower cost to your clients, what’s the point?

DFM as manufacturer

The rise of segregated mandates does not only affect vertically integrated businesses. Advisers using a DFM for on-platform model portfolios should take heed if the DFM starts to run mandates. My view is that this fundamentally changes the proposition and advisers should carefully consider the consequences.

DFMs using segregated mandates will hold a manager in a portfolio for longer. Relationships between wealth managers and asset managers running segregated mandates typically last upwards of 10 years. In fact, some institutional mandates have lasted more than 100 years.

Most asset managers won’t give access to their best manager in a segregated mandate. Why should they? If you can get 75 bps, why take 60 or 40 or even less?

This means that DFM models move from being a portfolio of the best funds to a portfolio of managers in which the DFM believes. But if the manager starts to underperform, it could take several months to make a switch.

Financial advisers with scale will consider running their own funds relying on asset managers for the underlying mandates. The early evidence shows big asset managers that are component players (i.e. not vertically integrated) stand to win on assets but will be squeezed on fees. Boutique asset managers offering good performance at a low price also stand to gain.

To date, investors haven’t been a beneficiary of lower fund charges. Seg mandates have been used to add profitability to the wealth managers that run funds. But investors stand to win in the long-run. We think the regulator will eventually force more fee disclosure. This will make firms pass more of the cost savings to investors.

Ultimately, there will be winners and losers. The key for the advice profession is: be prepared.


This post was created for the DISCUS website by Heather Hopkins, Managing Director at NextWealth.