Six Advantages of Separately Managed Accounts

Executive Summary

The concurrent use of commingled and separate accounts may help in optimizing corporate cash management.
Among corporations, separate account management has a limited following – about 20% in separate account management vs. 76% in money funds and 22% in other funds.
Six Advantages of Separately Managed Accounts:

1. Tailored Risk Management
2. Transparency
3. Higher Return Potential
4. Free from “Hot Money”
5. Income and Capital Gains Management
6. Versatile Reporting

Investments in time and research in a separate account relationship may bring just rewards in times of uncertainty.

Introduction

One of the lessons corporate treasurers may glean from the recent crisis of confidence in money market funds may be that pooled liquidity vehicles, despite their appearance of safety and liquidity, are in fact quite susceptible to severe credit risks that may lead to fund freezes. In 2007, after early blowups of supposedly conservative “yield-plus” and “ultra-short” funds, several state-owned local government investment pools (LGIPs) froze redemptions due to investments in troubled structured investment vehicles (SIVs). The Lehman Brothers bankruptcy in September 2008 forced the $64 billion Reserve Primary money market fund to “break the dollar”, the second such instance in the history of money market funds. The U.S. Treasury had to institute an emergency guarantee program for money market funds to prevent widespread runs on money funds beyond the four fund families that already implemented fund freezes. The exclusion of the $9.3 billion CommonFund Short-term Fund, a money market-like pooled vehicle, from the guarantee program forced its trustee to freeze redemptions and left thousands of colleges without access to their operating cash accounts. All of the recent events evoked more uneasiness among treasury professionals who routinely use such commingled investment vehicles as mainstay cash management tools.
Whether to use a commingled asset pool like a mutual fund or an investment manager in a separate account format is an age-old debate among investors in different disciplines. Few would dispute the benefits of a constant $1 share price and the daily liquidity offered by an SEC-regulated money market fund today; however, an investor in a separate account with specific investment guidelines might have avoided the recent collateral damage from some of the poorly conceived investment strategies in commingled vehicles. Frustration from the inability to assess and remedy undesirable credit exposures in a fund by the individual investor was perhaps more agonizing than the severity of actual credit risks.
The recent growth of web-based portals took the popularity of fund investing to a new level. Credit events since August 2007, however, brought the argument for separate account management back to the front-burner for many corporate investors. In this paper, we point to a number of advantages of separately managed accounts (SMAs). We believe that the right answer is not an “either-or” decision, but rather the simultaneous use of both strategies in optimizing cash management solutions for the corporate investor.

Separate Account Management Basics

As the title indicates, investors of SMAs own their investments directly, often in a custodial investment account registered under the investor’s name. This is in contrast to investors owning shares of a mutual fund or another commingled investment vehicle that in turn owns individual securities, such as stocks, bonds, and/or derivatives. In both cases, investors use professional investment managers to make discretionary investment decisions. Typical SMA investors include educational endowments, charitable foundations, pension plans and private wealth trusts.
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