Transparency Is An Investment Steward’s Best Friend!

One of the most interesting aspects of being part of HighView is the many different people we have the privilege of meeting across all segments of wealth management, both in Canada and internationally. One group of people with whom we’ve been spending more time recently is investment fiduciaries. Specifically, there are many organizations that have a fiduciary obligation for the management and oversight of large pools of capital for the benefit of others such as foundations, endowments, private pension plans and family offices.  We refer to these individuals as “Stewards”.

As Stewards of Wealth are operating as fiduciaries, they are legally expected to carry out their role to the highest standard of care and in the best interest of the principal (or in these investment stewardship situations, beneficiaries).  With this as a yardstick of success, any time I sit on an investment committee/board, “transparency“, especially related to the core investment management function, is always my best friend!  In other words, I cannot personally assess if all the people involved in the investment management function are “acting in the best interest of the beneficiaries” if I do not have full transparency around all elements of the investment management function from “top-to-bottom” (ie: asset allocation, mandate allocation, manager due diligence & oversight, trade execution and custody).

It is for this reason that I’ve been continually shocked in recent months as to how many large pools of capital (> $50 Million) for family offices and such institutional accounts as foundations, endowments and private pension plans are FULLY invested through retail “wrap programs“.  I know that the term “wrap” has many different meanings but for the purposes of this discussion, I’m referring to managed asset programs in which multiple manager solutions, together with a variety of operational support and advisory services — custody, client reporting, trade execution — are all “bundled” or “wrapped” into a single, easy to comprehend fee structure. This includes Separately Managed Account (SMA) Programs (which use individual stock & bond mandates) as well as Fund Of Fund offerings.  [Note: For a full review of these managed programs, please click below to review our article: “Designing Your Managed Asset Continuum“]

I’m not against the use of such Wrap Programs. In fact, the partners of HighView Financial Group have been successfully designing and managing such programs for more than 20 years — but we are against the use of these programs for the wrong client situations!  Wrap Programs are RETAIL investment programs that were intentionally designed to deliver multiple manager solutions to clients who don’t have sufficient assets to create their own multiple manager solution and therefore, need to be part of managed asset programs that operate as large pools of capital (either virtual or actual pools) in order to access such managers.  Although it’s always challenging to put a maximum investable portfolio dollar threshold on such wrap programs — as every client situation is different — an organization with $50MM of assets is clearly NOT a Retail client!!   To illustrate my point, I’ve listed below some key questions to which all Investment Stewards should be able to receive readily available answers in order to properly assess whether or not all investment management related participants are “acting in the best interest of the beneficiaries“.  These questions are organized according to the four (4) core participants in wrap programs:

1. Asset Consultant:

a. Portfolio Advice:

• Who will be providing portfolio advice to us in terms of the determination of our investment objectives and risk tolerances?

• How will our portfolio be structured to meet our future goals/financial liabilities?

• How much are we paying for such Portfolio Advice?

b. Manager Search, Due Diligence & Oversight:

• Are the professionals who are responsible for the search, due diligence & ongoing oversight of the underlying Investment Managers independent of the Sponsor and any underlying Investment Managers?

• How much are we paying for professionals who are responsible for the search, due diligence & ongoing oversight of the underlying Investment Managers?

• What decision making authority do we, as the client, possess with respect to recommended changes of Investment Managers? Are they mandatory or do we have a say?

2. Investment Management:

• Are all of the Investment Managers in the wrap program independent of the Investment Advisory firm, or Sponsor of the wrap program?

• How much are we paying for the underlying Investment Managers?

• As our assets increase (or decrease) how do the Investment Managers’ fee schedules change?

• Who profits from the pricing spread between the Client Fee and the underlying Investment Management fees as overall assets in the wrap program increase?

3. Brokerage Trade Execution:

• What brokers are responsible for the execution of security trades in our portfolio?

• How are these brokers selected?

• How are these brokers monitored to ensure that they are striving to achieve best execution for us?

• Are we receiving true institutional pricing on fixed income transactions,or are there embedded spreads/commissions built into the fixed income transactions, in addition to our Client Fees?

4. Custody:

• Who is the custodian and safekeeping our assets?

• Are our assets segregated from the corporate assets of the custodian?

• Does the custodian have a strong financial balance sheet?

• Is the custodian independent of the Sponsor of the wrap program. If not, why?

• How much are we paying for the custody of our assets?

As you can see from the above questions, it’s really all about Conflicts of Interest!  As Conflicts of Interest are a part of business (ie: they can minimized and mitigated but never really completely eliminated), from an Investment Steward’s perspective, the only way to manage any conflicts and to ensure that everyone involved in the investment management process is “acting in the best interest of the beneficiaries” is to:

• Know which conflicts exist and where, and

• Have full transparency (both cost and activities) for all conflicts

In retail wrap programs, all of the above functions (ie: Investment Management, Manager Search & Due Diligence, Trade Execution, Custody and Portfolio Advice) are bundled into a single fee.  As a result, how can an Investment Steward really assess whether or not they, or any of the other wrap program related participants, are acting in the best interest of the beneficiaries, especially when it comes to fees and costs?  Answer: They cannot!  The other answer, though, is that it’s probably going to be impossible for even the Sponsoring Firm Representative to answer these fee transparency questions with exact specificity for a given client account as the whole process of “bundling” creates an ‘averaging’ of fees and costs across the entire wrap program!

To reiterate my point above, I’m not against the use of Retail Wrap Programs — provided that there is good value in a given program (ie: quality/price) — as they make sense for “retail” clients who do not have sufficient investable assets and are seeking a one-stop multiple manager solution.  But for mid-sized and large family and institutional accounts, we believe that Investment Stewards should look to an Advisor who can help them bring together the four wrap program participants but in an “unbundled” manner in order to create their own multiple manager investment solution that is fully transparent.  By doing so, Investment Stewards will be well on their way to being able to effectively answer the primary question: “Are we acting in the best interests of our beneficiaries?“.