Rush to collect assets stretches resources to the limit

Managed accounts, arguably more popular than at any other time in their 30-plus years of existence, may be facing new growing pains.

At issue, according to the latest industry research, is the concern that money management firms may be stretching their resources to the limit as they continue an increasingly aggressive push to attract investor assets by adding distribution relationships.

As money managers are forced to limit the amount of money they spend to support their programs, financial advisers and brokers could be hit the hardest.

“It certainly presents a challenge for financial advisers if they are not getting the service that was promised by the asset managers,” says Kevin Keefe, an analyst with Financial Research Corp. in Boston.

Mr. Keefe also notes that some aspects of the industry are expanding as if this were still a “garage business.”

“Right now, this industry is all over the place,” he says. “There seems to be a big lack of focus.”

That lack of focus, he says, could ultimately hurt the industry’s overall quality, and squeeze some firms out of the business.

scrambling

The managed-accounts industry has grown to an estimated $400 billion invested through approximately 2 million individual accounts, including more than 300,000 new accounts last year.

As the appeal has grown – particularly in the face of shrinking mutual fund assets – money management firms have been scrambling for assets.

Separate accounts are offered in some form by about 100 different brokerage and third-party platforms, and sold through intermediaries.

Technically, any brokerage platform that provides access to a separately managed account can be counted among the total pool of program sponsors.

But according to Christopher Davis, executive director of The Money Management Institute in Washington, there are only about 20 firms actively participating as sponsors of separate accounts. Of those, the five wirehouses are responsible for more than 70% of the industry’s assets.

No hard numbers are available on the money manager side, Mr. Davis admits, but he estimates there are about 350 firms actively participating in the separate-accounts industry.

For many firms, gathering assets in that industry has become a volume game.

The crux of the issue is a potentially awkward push-pull between the money management firms and the brokerage companies that package and market the accounts, according to Mr. Keefe.

The FRC analyst is expected to discuss the situation this week in New York at the MMI’s annual conference.

He says research suggests that money managers are generally taking on more sponsor-firm relationships than they can adequately support, both from a back-office perspective and in terms of the number of internal and external support staff.

“It’s real difficult to be all things to all people,” he says. “The sponsors want the money managers to have fewer partners and to spend more time with each sponsor relationship.”

As the industry has evolved, more is being asked of money managers who gather assets through separate-account programs. But money managers may not be building out their businesses to provide the increased demand for services and support.

Because the managed-accounts industry is still a long way from being standardized on the operational side – trade orders are sometimes faxed in – most money managers realize that each new sponsor relationship brings an additional drain on resources.

But some money managers just can’t resist building an expansive network of sponsor relationships.

Relationships rising

Nuveen Investments Inc. in Chicago, for example, has been adding two or three new sponsor relationships per year over the past 10 years.

Of the company’s $80 billion under management, $19 billion is in separate accounts. This kind of success could represent an endorsement for the firm’s above-average total of 40 sponsor relationships.

“We recognize that we have limits in terms of sponsor relationships, and the sky is not the limit,” says Michael Lewers, a Nuveen managing director. “We may not add any new relationships in a year or two.”

Meanwhile, Mr. Lewers does not think his firm’s resources are being strained by juggling more than three dozen sponsor relationships.

He admits that the so-called 80-20 rule applies, which suggests that 80% of his business is concentrated with a handful of sponsors.

Wirehouses, for instance, from which Nuveen gets the bulk of its separate-account assets, require and receive more attention.

The smaller regional-brokerage relationships, he says, “are not as labor intensive, because they don’t have the same expectations.”

According to FRC, firms with more than $5 billion in separate-account assets under management had an average of 34 sponsor-firm relationships at the end of September 2002. This is up from an average of 31 relationships at the end of 2001.

The biggest growth spurt is among those firms with less than $1 billion in separate-account assets. The average there doubled to 14 sponsor relationships over the same nine-month period.

More significantly, 74% of money managers say they plan to increase their number of sponsor relationships in 2003 by an average of 4.3 relationships, FRC says.

At the same time, according to FRC, the level of service and support at the money management firms is declining.

From the number of internal and external wholesale reps per firm, to the territory those reps are expected to cover, to the number of new positions being created, all signs point to less support from the money managers, according to FRC’s research.

Defending strategies

Ultimately, the separately managed account, which is aimed primarily at wealthier investors, is dependent on the symbiotic relationship between the money managers and the sponsors.

So far, the conversations have been polite. But sponsors are becoming more vocal, which may start putting money managers into a position of defending their business strategies.

“From my perspective, the money managers should focus on fewer strategic relationships,” says Leo J. Dolan Jr., principal at Brinker Capital Inc. in King of Prussia, Pa. “Money managers need to decide on the right number for them and commit to sales and support.”

Brinker, a third-party provider of investments and services, has $3 billion under advisement. The company has established relationships with 40 different money managers in its separate-account business.

“Research shows that the average money manager participates in about 24 programs. That’s too many,” Mr. Dolan says. “You just can’t commit the appropriate support and access.”

Sponsors are concerned that money managers will become commodities as separate-account platforms all start to look alike.

“Each money manager makes their own decisions, and it is their prerogative to be in as many relationships as they want, ” says Chris Tomecek, president of Lockwood Financial Group in Malvern, Pa., a leading provider of separate accounts.

“Unfortunately,” he adds, “some managers have [diluted] their value because they have become a commodity.”

As Mr. Tomecek sees it, money managers may be spinning their wheels, trying to maximize asset flow by being in as many programs as they can.

“In a raging bull market, it was the right thing to do to,” he says. “But in a bear market, [using] multiple channels just increases their expenses, and turns them into a commodity.”

Meanwhile, Lockwood, which is responsible for $6.4 billion in separate-account assets, has 162 money managers currently under contract.

Mr. Tomecek says he doesn’t see a contradiction between asking money managers to reduce the number of their relationships and running one of the most expansive platforms in the industry.

Despite the staggering size of its money manager pool, Lockwood has just 52 firms on its “recommended” list, he explains.

The list is pared further through a Lockwood Strategies program that uses just 18 money managers to construct five different allocation strategies, ranging from current income to growth.

“While, yes, we have 52 managers on our `recommended’ list and another 110 under contract, through the implementation of Lockwood Strategies, the advisers don’t see all those managers,” Mr. Tomecek says.

Getting it

Those money managers pushing the hardest to expand market share by adding sponsor relationships tend to be either the most established firms or those firms just entering the business.

Those firms in the middle – with between $1 billion and $5 billion in separate-account assets – seem to “get it,” Mr. Keefe says.

“The [middle-tier] firms were forced to get it, because they were getting squeezed from both ends,” he adds. “And just like what happened in the mutual funds industry, those middle-sized firms end up getting acquired.”

Mr. Lewers of money manager Nuveen says he gets it, too.

“There’s no doubt that sponsor firms are expecting more, and we’ve stepped up to the plate,” he says. “The challenge is understanding and evaluating the opportunity in each [sponsor] program.”

Nuveen is responding to the increased demand for support with its wealth management group, which is designed to support advisers and deepen sponsor relationships.

In defense of Nuveen’s steady push for more sponsor relationships, Mr. Lewers says his firm has avoided some sponsor relationships because of operational inefficiencies at the sponsor level. But so far, Nuveen has not terminated any of its existing relationships with sponsors.

“We’re seeing so many institutional money managers entering this business, it validates what we’re doing,” he says. We’ll be the first to know, internally, if adding an additional sponsor creates a problem.”

It isn’t that sponsors don’t appreciate the challenge that the money managers are facing.

Lee Chertavian, chairman and CEO of Placemark Investments Inc. in Wellesley, Mass., says money managers are simply trying to diversify.

“I think the money managers would be hesitant to reduce their number of relationships, because of the business risk,” he says.

“There are some money managers that might being doing 70% or more of their business with one wirehouse. You can have one bad quarter, suddenly the wirehouse drops you, and you’re out of business,” Mr. Chertavian says.