Investor Basics: Mutual Funds vs. Separately Managed Accounts
When hearing the term “separately managed account,” many investors may wonder what it means and how it might differ from a traditional mutual fund. These two vehicles are similar in that they are both methods of managing investments, but I liken them to the difference between taking a bus or an Uber. Both will get you to where you want to go, but the bus (mutual fund) will be filled with other passengers (investors) and may not take the most direct route; however, it is very inexpensive. Your Uber ride might be faster and bring you directly to your destination, but it will definitely cost more. Here are some details that might help better explain the differences as you contemplate investment choices:
Generally, mutual funds will be professionally managed based on the investment objectives defined in the prospectus. This offers limited flexibility in the types of stocks the manager can purchase (this is the bus route). If you are investing in a large cap growth fund, the manager can only invest in large cap growth stocks, even if they think that growth is overvalued and due for a correction while many value stocks offer opportunities. Given that you have one manager, or a team of managers, and many investors providing the funds for investment, the minimum investment and fees are usually much lower. In many cases, you might invest with as little as $50, and management fees on some index funds are as low as a few basis points. Although you are investing in a portfolio of stocks, you will not directly own them, so you won’t be entitled directly to dividends or to vote those shares in a proxy. These will all be handled by the fund manager.
Separately Managed Accounts
There are a number of benefits to separately managed accounts. First, your account will have its own manager, who will choose what investments to make based on your own investment goals and any constraints you make on investment options (for example if you choose not to invest in “sin” stocks or other specific areas). The manager will have more flexibility to make investment decisions based on market conditions, so if your manager believes the market might be overvalued, they might sell some positions and raise cash. To get your investment Uber ride, you will also have to pay more in terms of minimum investments and fees. Most separately managed accounts require minimum investments of $50,000 to $100,000 or more. Management fees may range from 1% to 3% of assets managed, which means that your manager will need to contribute significant alpha for total returns to match what you might see on a lower fee mutual fund.
So, these are the basics between investing in a mutual fund compared to a separately managed account. Of course, you could also pursue a third alternative and pursue an MBA and earn a CFA Charter and manage your own account, but it might take a while to pay for those efforts based on the fee savings you might generate.