What Is a Separately Managed Account (SMA)?
Understand Separately Managed Accounts (SMAs): custom-built investment portfolios offering direct ownership and professional management for your financial goals.
A Separately Managed Account (SMA) offers investors a personalized approach to wealth management. It involves a professionally managed investment portfolio comprised of individual securities. This structure allows for a highly tailored investment strategy designed to meet an investor’s specific financial objectives and risk tolerance.
The Core Structure of Separately Managed Accounts
At its foundation, a Separately Managed Account distinguishes itself by granting investors direct ownership of the individual securities held within the portfolio. An SMA means an investor owns the actual stocks, bonds, or other assets, not shares of a fund. This direct ownership is a defining characteristic.
The SMA structure involves three main parties: the investor, the investment manager, and the custodian. The investor establishes the account and retains legal ownership of all holdings. A professional investment manager is granted discretionary trading authority to make investment decisions and execute trades on the investor’s behalf.
A third-party custodian holds the assets securely, separate from the investment manager’s own funds. This arrangement ensures the manager can buy and sell securities, but does not have direct access to the investor’s cash or assets for withdrawal. This separation provides an important layer of protection for the investor’s holdings.
Distinguishing Characteristics of SMAs
Separately Managed Accounts offer a high degree of customization. Portfolios can be precisely tailored to align with an investor’s unique financial goals, risk tolerance, and time horizon. This personalization extends to incorporating specific preferences, such as excluding certain industries or companies for ethical or social reasons, often referred to as Environmental, Social, and Governance (ESG) criteria.
Direct ownership of securities within an SMA provides a clear view of all holdings, enhancing transparency for the investor. An SMA allows an investor to see every trade and every security held in their portfolio at any given time. This direct insight fosters a deeper understanding of the investment strategy.
A significant advantage of direct ownership in an SMA is the potential for sophisticated tax management strategies. Investment managers can employ tax-loss harvesting, which involves selling securities at a loss to offset realized capital gains elsewhere in the portfolio. This strategic selling can help reduce an investor’s taxable income, potentially improving after-tax returns.
SMAs also offer flexibility in managing embedded capital gains. If an investor transfers existing appreciated securities into an SMA, the manager can work to defer or minimize capital gains taxes through in-kind transfers or by strategically managing the timing of sales.
How SMAs are Professionally Managed
The management of an SMA begins with a detailed assessment of the investor’s financial situation and investment objectives. Based on this profile, the investment manager constructs a portfolio by selecting individual securities. This process considers the investor’s risk tolerance, income needs, and any specific preferences, ensuring the portfolio is built to meet their unique requirements.
After initial construction, the portfolio undergoes continuous monitoring and rebalancing. Investment professionals actively oversee the holdings, making adjustments as market conditions evolve or as the investor’s objectives change. This ongoing oversight ensures the portfolio remains aligned with the intended strategy and continues to pursue the investor’s financial goals.
Investors receive regular communication and comprehensive reporting from their SMA manager. These reports typically detail portfolio performance, current holdings, and all trading activity. This consistent flow of information allows investors to stay informed about their investments and facilitates direct communication with their manager for any questions or adjustments.
SMAs Versus Other Investment Options
Separately Managed Accounts differ from common pooled investment vehicles such as mutual funds and Exchange Traded Funds (ETFs) primarily in their ownership structure. In an SMA, the investor directly owns the individual securities, granting them direct legal title to each stock or bond. Conversely, with mutual funds and ETFs, investors own shares of the fund itself, which in turn owns a diversified basket of securities.
The level of customization offered by SMAs is significantly higher than that of mutual funds or ETFs. While funds offer standardized portfolios for a broad base of investors, SMAs are built to cater to the specific needs, preferences, and constraints of a single investor. This allows for highly personalized investment strategies.
Regarding tax implications, SMAs provide greater control over capital gains and losses. Due to direct ownership, an SMA manager can implement specific tax-loss harvesting strategies, selling individual securities at a loss to offset gains. Pooled funds, however, distribute capital gains to all shareholders, which can create a tax liability for investors even if they did not actively sell shares.
A practical distinction lies in the minimum investment requirements. SMAs typically require higher initial investments compared to mutual funds or ETFs, often starting at $100,000 or more depending on the strategy and firm. This higher threshold makes SMAs generally more accessible to individuals with substantial assets seeking a bespoke investment solution.
Understanding the Costs of SMAs
The costs associated with Separately Managed Accounts are typically structured as an asset-based fee. This means the investment manager charges a percentage of the total assets under management (AUM) within the SMA. This fee compensates the manager for their ongoing portfolio management, research, and trading decisions.
The specific percentage charged can vary based on several factors, including the investment manager’s experience, the complexity of the chosen investment strategy, and the total amount of assets being managed. While fees can range, they often fall within 0.2% to 1.0% or more annually, depending on the services included.
These asset-based fees generally encompass a range of services beyond just investment management. They often cover administrative support, custodial services, and performance reporting. Some SMAs may also be part of a “wrap fee” program, where a single, all-inclusive fee covers various bundled services, simplifying the cost structure for the investor.