Managed accounts have enjoyed a recent spike in asset growth over the years, garnering attention for their potential to provide increased customization and risk control. Following the financial crisis, many hedge fund allocators realized that their liquidity profiles no longer matched those of the funds in which they invested. As such, investors who were newly sensitized to co-investor risk turned to managed accounts as a way to have more control over their investments while retaining the benefits of professional money management.
In response to this growing appetite for managed accounts, fund managers are moving towards providing these structures, with almost half of all respondents to a 2015 KPMG Global Hedge Fund Survey saying that they already offer a fund of one or managed account solution. This article seeks to provide a primer designed to help investors familiarize themselves with the managed accounts landscape as well as evaluate the merits of utilizing these investment vehicles.
Defining Managed Accounts
Managed accounts are investment accounts that are directly owned by an individual investor or institution, with investment decision-making delegated to a professional money manager (often a registered investment advisor or active hedge fund manager). Managed accounts can be set up as trackers designed to run pari passu to a firm’s flagship fund. In other cases, managed accounts can be fully customized to an investor’s unique preferences.
Enhanced Control and Transparency
Managed accounts provide greater scrutiny of manager trading activities and transparency on underlying portfolio holdings. Commingled funds, on the other hand, provide transparency on a weekly or monthly basis at best. This increased transparency has several advantages depending on the degree of control an investor is willing to exercise. For instance, real-time transparency can allow investors to better identify risk factors and direct managers to mitigate certain exposures. While this is advantageous for many investors, others who are not interested in proactively and frequently managing risk may not have as much of a need for daily transparency.
In contrast to commingled funds, which can have lockup terms, managed accounts also provide investors with potential daily liquidity. Of course, the degree of liquidity all depends on the underlying assets of the portfolio, but managed accounts still remove the risk of gating provisions that can be imposed by commingled funds during redemption pressures. Effectively, this acts as a potential safeguard against harmful co-investor behavior. The strong appeal of managed account structures can be attributed to this ability to provide reliable exit routes when liquidity is required.
Adverse Selection Bias
Despite the many advantages they provide, managed accounts can be subject to a degree of adverse selection bias. As mentioned previously, managed accounts can be set up as trackers of a firm’s flagship fund. However, not all firms provide these structures to investors, and access to some of the best strategies may be limited as a result. There is a myriad of reasons why certain firms do not provide managed accounts. Managers may not wish to take on the administrative burden of implementing strategies across numerous accounts and following tailored guidelines. Others simply do not wish to compromise their competitive advantage by providing daily transparency. Most importantly, certain strategies are not suitable for managed accounts, such as those that involve prohibitively high minimum deal sizes or preclude the ability to split allocations across different accounts.
In managed accounts, many of the ongoing operational responsibilities fall upon the investor; this may include setting up service providers such as prime brokers, custodians, and fund administrators. It is worth noting, however, that there are managed account platforms that help investors set up their accounts in addition to reducing operational and administrative burdens. Despite this, all commingled funds are able to achieve economies of scale by leveraging a wider investor base to reduce operational costs.
Notably, managed accounts can provide certain tax benefits since assets are owned by the investor directly, and as such, unearned capital gains are not possible. In an investment fund, however, the investor has a tax liability for any net capital gains in the portfolio. Additional tax planning benefits can be achieved in conjunction with the increase control an investor has within a managed account structure; an investor can direct managers to make certain decisions that will offset capital gains.
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