By broadest definition, wrap products are a form of fee-based investment management. The investor pays a flat fee (based on the amount of invested assets) to have their portfolio invested. The versions of this product that are the most relevant to the bank market are mutual fund wrap accounts and consultant wrap accounts.
Mutual fund wrap programs charge a fee for analyzing a client's investment needs, developing an appropriate asset allocation mix, and selecting a combination of mutual funds. The annual fee for this bundle of services ranges from 1% charged by Fidelity in their Portfolio Advisory Services to 1.5% charged by Shearson in their Trak program.
Account minimums are between $25,000 and $100,000. Most of these programs do not offer the additional break points (fee discounts based on size) available in other types of wrap programs. The majority of mutual fund companies either offer or are planning to offer a version of the mutual fund wrap.
Like a Financial Adviser
In many ways mutual fund wraps closely mimic the services of small, independent fee-only financial advisers, who take a 50-to-100-basis-point annual fee to allocate and monitor client assets in no-load mutual funds.
In consultant wrap accounts, the sponsoring firm provides client evaluation, manager selection, and performance monitoring and reporting.
In the client evaluation phase, the sponsor evaluates and analyzes the client's financial position, investment objectives, time horizons, risk tolerance, securities preferences, and general profile. At the most basic level, this is accomplished by a questionnaire. More advanced wrap programs entail one or more meetings with the client.
The diligence exercised in choosing and maintaining a "short list" of money managers is often the major value brought to a consultant wrap program. The size of this pool of managers can vary from one (an in-house money management group) to over a dozen.
Manager Evaluation Services
A subindustry has grown up around the need for manager evaluation and due diligence. A growing number of external firms now provide this due diligence to the sponsors of wrap accounts, in the form of initial evaluation and ongoing, performance monitoring of managers.
Most wrap accounts provide quarterly reports to the client, showing the performance and net assets over the prior period. Programs offer various levels of detail, from a one-page overview to a detailed analysis showing holdings in the account, trading activity, benchmarked performance, and quantitative assessments from the manager on how the portfolio fared.
Account minimums tend to be higher in consultant wrap accounts than in mutual fund wraps.
Fidelity's Product
Wrap account activity in the bank market is just emerging. Fidelity has a mutual fund program that allows a bank to offer a wraplike product with minimal start-up costs and quick setup. Distributed under the label "Portfolio Plus," this arrangement gives the bank access both to the Fidelity no-load funds, and to the Fidelity Advisor Series funds on a load-waived basis.
The bank has the option of charging a wrap fee, or taking revenue form 12b-1 trailers. Furthermore, participating banks can either allocate across these funds based on their own guidelines, or they can rely on the same asset allocation models used in Fidelity's retail-level Personal Advisory Service mutual fund wrap.
Stein Roe also has a mutual fund wrap account, called Counselor Preferred, in which it provides discretionary asset allocation across its funds for a 1% annual fee. Through its related company, Liberty Financial, Stein Roe is in a position to generate substantial bank interest in this offering.
Program for Professionals
Chase Manhattan Bank recently introduced a consultant wrap program. The program uses Portfolio Management Consultants of Denver for manager due diligence and reporting. National Financial, Fidelity's clearing subsidiary, provides clearing and execution.
This wrap fee program, structured to appeal directly to the working professional, appears to be catching on. At a recent industry conference, Chase reported the following results:
Of the 425 customers signed on since the program's inception, the vast majority are physicians, attorneys, executives, or entrepreneurs. The average age of the customer is 48 years.
These customers have an average income of $200,000 and a net worth of $1.2 million. The $125 million gathered in the program represents an average of $300,000 per account.
Ties to Trust Department
Chase Investment Services, where the wrap program resides, has substantial ties to the bank's trust and private banking resources. This is strong service leverage, since the wrap customer is also likely to need estate planning and other trust services.
Although Chase is the first bank to have success with a consultant wrap program, we expect to see others. Chemical has confirmed that it is preparing a wrap product.
National Financial has the potential to market its "Ascent program, used by Chase, to other financial institutions. BHC Securities Inc. is also reportedly approaching its bank brokerage clients with a proprietary wrap account offering.
Banks have high potential in the wrap market. Because of their access to a larger customer base, and general economies of scale, banks should be in a position to provide wrap programs at even lower minimum account levels than standard brokerages.
International Savvy
They have access to customers and trust services, and relationships built on consultation and advice. As the investment community demands more international products, large banks with experience in international custody and multimarket trading will be better positioned to allow international managers to participate in domestic wrap programs.
Further, initial no-action letters from the Security and Exchange Commission suggest that wrap programs run under the umbrella of a trust company could avoid several levels of reporting and potential regulation.
In essence, the establishment of a "trust" relationship may address in advance some of the thornier wrap issues of suitability and due diligence.
Internal Conflicts
However, wrap programs can create tensions among fledgling bank brokerage operations, bank proprietary mutual fund families, and long-established trust departments. Banks that successfully avoid these internal skirmishes will be well positioned.
Jim Zuccone, formerly a key developer of Prudential's wrap program, currently spearheads BHC's wrap efforts. From his perspective:
"It's time for banks, their brokerages, and their trust departments to lay down their guns, take a look around, and realize the enemy is out there in the market, not inside the bank."
401(k) Applications
In a related areas, there is significant potential for the application of certain wrap features to small-to-midsize 401(k) plans.
For example, Shearson's Trak mutual fund wrap program was recently approved for use with 401(k) plans. (The pricing was adjusted in the 401(k) version of Trak, so that management fees paid to the various external subadvisers did not provide larger spreads to Shearson in some Trak fund than in others).
Another interesting example of the overlap between wrap services and 401(k) is the asset allocation service offered in the Principal Group's small plan 401(k) product. Through information collected from a questionnaire, Principal evaluates a plan participant's risk profile and investment goals, then allocates the assets in their 401(k) plan according to model portfolios developed by Principal.
Mr. Cerulli is a principal and Mr. Neusner a consultant with Cerulli Associates, a consulting firm in Boston.
