Since the mid-'70s, when the investment world went to negotiated commissions and the Employee Retirement Income Security Act mandated professional management and investment policies for qualified plans, wrap accounts have grown and been transformed into a workhorse investment vehicle and a $150 billion industry.
And it's not just a private money manager you get when you buy a wrap account now; you can get a mutual fund manager, too, or a group of money managers, public or private. The wrap account concept also is spreading to new investments: real estate, hedge funds and possibly offshore funds. Plus, new pricing plans have emerged to quell the gripes about high fees. The 3% list price has been knocked down to about 2.3%, according to the consulting firm Cerulli Associates in Boston.
The traditional wrap with a menu of private portfolio managers is being sliced into institutional accounts and retail accounts, where investment minimums, managers, trading services and even custody options abound. For example, a new wrap program affiliation between Wheat First Butcher Singer and Lockwood Financial allows brokers to custody their assets at Wheat First or elsewhere, and provides a menu of services from which the rep can choose. Broker payout is determined by the amount of services used at either firm and ranges from 60% to 90%, depending on how many services are used.
Meanwhile, wrap programs are being further refined to target both taxable and non-taxable accounts.
"Within the separately managed account, there are gradations of bells and whistles," says Len Reinhart, head of Lockwood Financial in Malvern, Pa., and an early player in the wrap business. "One may be more of an institutional product versus retail. And I think we will see further gradations in taxable versus total return programs."
What helps drive the innovation is the fact that new programs can be spun in a day. No arduous registration process has to be completed with the SEC or state regulators. While a mutual fund must register with each state and the SEC, and is subject to Investment Company Act restrictions (such as the requirement to provide daily pricing), a wrap account is different. The focus is on disclosure with wrap programs--all of the parties in the relationship are fiduciaries to the client account. That means a higher degree of responsibility for firms, brokers and managers, but less regulatory baggage and more creativity.
Technology adds to the capabilities. In the past, many wrap programs looked a lot like unregistered mutual funds (at least to some regulators). But now, newer accounting systems offer the ability to flag certain accounts for tax considerations, or block certain types of stocks from being allocated to a particular portfolio on the basis of risk measures or social screens.
And technology allows many of the services provided by wrap account programs to be sold in a modular fashion, giving brokers the ability to decide what they need and what they will pay for. Managers get more options thanks to technology, too. For example, Schwab is breaking out a new "wrap" program that allows money managers to market themselves to registered investment advisers who use Schwab as a back office; the brokerage firm doesn't call it a wrap program--performance reporting and accounting will have to be done by the individual manager. With more powerful portfolio-management software available for desktop computers, the accounting chore is now doable for these smaller advisory firms.
Move Over, Big Boys Wrap programs have gone mass market. It's no longer just the big wirehouses and the full-service firms playing.
Fidelity Investments and Charles Schwab offer many of the prestigious money managers that Wall Street firms have held out as exclusives, such as Nicholas Applegate, Rittenhouse and Roger Engemann & Associates. To be sure, this takes a bit of the cache from the major brokerage firms, which until now were able to throw their sales and distribution weight behind agreements with top money managers. But, as management firms know, Fidelity and Schwab have a lot of weight, too.
Also helping to popularize the wrap account is its acceptance by the independent adviser marketplace--financial planners, insurance agents and wirehouse refugees.
Reinhart, himself a departee from Smith Barney where he ran its Consulting Group, says, "There is a lot of interest and activity from independent firms in wrap accounts because up until now they didn't have the access." Reinhart founded his firm, Lockwood Financial, to serve that market. He claims to be taking on between 15 and 20 new investment advisers a month, up from single digits last year.
According to Cerulli Associates, the biggest growth segment of the wrap account market is the independent marketplace, with wrap assets more than doubling since 1992 to $282 billion. Regional firms, banks, independent financial planning firms, and mutual fund companies are controlling more of the distribution pie as well. NationsBank, for example, recently teamed with Morgan Stanley Dean Witter Discover to offer a wrap program through its outlets. "While wirehouses continue to dominate the wrap industry in terms of assets under management, their market share is slipping slightly," cites a recent Cerulli report on the wrap industry.
Brinker Capital is one example of a newer sponsor slugging it out in the independent market. The firm's client base is mostly insurance companies and financial planner types. Over the past year, the Radnor, Pa.-based firm says it has taken in $350 million of new assets under management--more than one-third of its total asset base--via a network of about 400 affiliated reps. Charles Widger, Brinker's managing partner, says the increase in sales is due to a movement in the independent marketplace toward alternative client services such as separately managed accounts, which offer tax efficiency. To meet demand, Brinker is rolling out two additional mutual fund asset allocation programs and another privately managed account program designed to be more tax-efficient.
"We designated a lot of resources to the tax-efficient area," says Widger. He says clients are now much more aware of tax management within separately managed accounts and are calling for more programs that address this issue. To that end, Brinker is also rolling out a variable annuity product that is fee-based.
"We see this as a big growth area," says Widger.