Separately managed accounts are no longer a niche product for the ultra-wealthy. Across the fixed income market, practitioners are watching the structure evolve from a high-touch institutional offering into the default wrapper for tax-aware bond investing of municipal bonds, and even into cross asset wrappers for non-muni fixed income holdings.
The numbers tell a compelling story. Institutional SMA penetration in the municipal market stood at roughly 13 to 14 per cent in 2018. It now sits at approximately 28 per cent. Jim Switzer, SVP and head of municipals at AllianceBernstein, correlates this with the rise of automated trading technology.
“What we’ve seen over the last five or six years has been truly remarkable in the growth of SMAs,” he said. “Municipals are about seven years behind credit in terms of electronic trading – that gap has narrowed to about two years, and it’s truly all based on SMA activity.”
The growth of interest in municipal bond holdings is tax management as Francis Romano, head of ICE Bonds client and third party integrations, noted.
“Active tax management — that’s what clients want, and that’s what you can do in an SMA as an active manager,” he said. “If you look at our flows from 2019 to today, our muni business has grown from US$30 billion to just under US$100 billion.”
Morten Olsen, head of customized fixed income at Northern Trust Asset Management says “When new high net worth clients are looking for asset management solutions, 98% of them want some sort of customisation. The growth in the SMA space is definitely there. I think it has more to go. What we’re going to see changing, is that a lot of the SMAs so far have grown in single asset solutions. Munis, tables. the obvious interest is in combining the asset classes, whether you would do some tax alpha strategies, where you combine munis and equities. A lot of nuances in the SMA world will become apparent as technologies evolve.”
Scaling SMA provision as an asset manager is where the operational challenge lies. Jesse Harris, head of fixed income portfolio management at Bank of America, running approximately US$110 billion in SMAs, described the complexity of the operations.
“This is a full-time job right now, our traders and our PMs have had to change the way we operate in the last four years to accommodate this growth in a very tight headcount environment globally, and really look for every single efficiency we can find.”
Alex Sedgwick, municipal and fixed income commercial executive director at S&P Global, pointed to technology as the enabler of scale.
“The challenge is always about scaling that structure, scaling that level of customisation. What we’ve seen in the technology space has really created this opportunity to scale the SMA structure,” he said.
Customisation is happening in the trading environment as well as the portfolio part of the equation.
Ben Harrison, Head of SMA and Muni trading technology at PIMCO says, “You’ve got traditional alternative trading systems (ATSs) that you get meaning liquidity from, but there are also newer entrants to market including the ATSs, where they’re offering direct connections between buy side and sell side counterparties, allowing for customised price, depending on the client, the dealers and the relationship is. Unless you were going to build it all yourself and maintain it yourself, 10 years ago it just wasn’t a thing. It’s pretty significant advantage.”
For Dylan Parker, co-founder and CEO of Moment, which builds investment management infrastructure technologies for the SMA market, the implication of delivering effective SMA technology will be to grow the model massively.
“I think the real growth in SMAs comes when you can say the fixed income SMA is not going to be the cherry on top — in a unified managed account, your default should be that your fixed income portfolio is in a fixed income, tax-optimised SMA,” he said.
The solution, according to Parker, requires a fundamental change in how portfolio managers work.
“The way the world is evolving, we have to all go from clicking buttons and implementing stuff, to setting the parameters for the system to make the implementation,” he said. Critically, he argued, that shift need not diminish investment quality: “Electronification doesn’t have to have a dichotomy with sophistication. You can have your system sitting there responding to bids, picking up unique odd lots, collecting bid-offer data, and doing continuous tax loss harvesting all day long.”
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