This content is from: Wealth Management

The Case for Outsourcing Portfolio Management

Benefits include more time for clients, less documentation to handle and potentially greater investment returns.

Scott Smith uses an analogy to describe how asset managers have historically handled asset allocation models.

“For years, asset managers have been approaching advisors like they are chefs, and saying: ‘Here’s what I have for your pie, and here is why my ingredients are better than their ingredients,’” says the Cerulli Associates director.

“What we’re turning to now is that [asset managers] are using their sales team to say, ‘Here’s the recipe we recommend – and if you have your own recipe, here are the two or three ingredients that it’s most important to include.’”

Only about 10 percent of advisors use these “recipes,” better known as outside models, to drive their portfolios, according to research by Cerulli. Many more - between 10 and 20 percent - don’t turn over discretion to a third party, but instead compare outside sources and use them to build their own. 

Yet advisors have much to gain potentially from outsourcing modeling. Cerulli found that, in many cases, advisor portfolios lagged those of third parties. “The industry’s increased reliance on asset allocation models has benefits,” says Daniil Shapiro of Cerulli. 

“Portfolio performance was better when investment decision making was made at the home-office level as opposed to being made directly by the advisor, or the rep-as-portfolio manager model,” says Shapiro, pointing to a Cerulli study. 

Smith attributes this to the incredible juggling act advisors must perform every day. They need to excel at gathering assets and managing client relationships while competing with chartered financial analysts and home offices whose sole focus is on asset modeling. 

“I just don’t think that’s a competition they are likely to win, if it’s the fifth thing on their list,” says Smith.

By handing over responsibility for managing the portfolio, advisors have more time to meet clients and potential clients. Smith says the trend has been fueled both by asset managers looking for another way to deliver value and by broker-dealers looking to free-up advisors so they can focus on clients instead of portfolios.

Finally, rule changes have made it beneficial for advisors to have someone else overseeing their portfolios. Nathan Faber, portfolio manager at Newfound Research, says “With increased emphasis on fiduciary standards, models can also be a good way to ensure that someone is thoroughly overseeing the investment process, giving the advisors more bandwidth to expand their practice through current and prospective client engagement.”

Nonetheless, Smith says he understands why advisors might shy away from this approach. “This goes to the heart of their value proposition for many advisors,” he says. 

While the advisor industry is shifting towards financial planning and goal-based activities, it can still be tough for clients to get their head around an advisor offering financial planning, coaching and a spread of other services besides portfolio management.

“It’s tough for advisors to reframe themselves,” Smith says. “It’s easier for an advisor to say, ‘I manage your money for you, I grow it for you and help you retire.’”

It may be easier for advisors to rebrand in this way than they think. Research from Morningstar has shown that there’s a difference between what investors value from their advisors and what advisors believe investors value. 

While both parties prize the advisors’ role helping investors reach their financial goals, investors ranked communication, reputation, knowledge and skills much higher than advisors, suggesting a preference for an all-round service beyond the portfolio. 

Both parties benefit when advisors are able to communicate this value, Morningstar researchers said, preventing a disconnect in the relationship. “Once people get on board with that it will be easier,” Smith adds. “They can say: these are the ten ways we can help you instead of just managing your money.”

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