Model portfolios are ready-to-go baskets of investments that may be a powerful tool in a manager’s arsenal. They can cut down on the amount of time managers need to allocate a portfolio appropriately and can open capacity for advisors to spend on practice management.
Model portfolios are nothing new, but have gained popularity in recent years. According to a Morningstar study, over the nine months ending in March 2022, assets in model portfolios grew by an estimated 22%. Institutional investors began to take notice, and as of May 2022, over 2,400 model portfolios were reported to the Morningstar database – with 30% of them launched in the three years prior.
Model portfolios can also allow for higher client touch-points, ultimately giving managers a competitive advantage.
“We did a survey1 on this in Q1 2022 and found that 92% of model users said a models-based practice improved their ability to interact with clients during COVID – and the uptake in assets gained during that period was about 18%. Demand for model portfolios is here and it’s being driven by the ability for the advisor to spend more time with clients and the ability for the advisor to adjust clients’ risk tolerance during periods of market volatility,” says Alyson Paul, CFA, director at BlackRock and Head of Asset Manager Portfolio Consulting.
Turbulent markets saw clients reaching out to managers for guidance, and model portfolios can be a crucial mechanism to help clients transcend traditional investment methods. “Market changes are making model portfolios more attractive for end users. Investment propositions can now move well beyond a plain 60/40 portfolio and can help manage risks and client objectives more effectively. The model portfolio toolbox is there to build solutions that may drive attractive outcomes for financial advisors and their clients,” says Bruce Picard, portfolio manager and head of model portfolios for Manulife Investment Management, which is the sub-advisor for John Hancock Model Portfolios. “Model portfolios have evolved to offer a wider spectrum of strategies and levels of customization.”
Customization for both active and passive strategies
Perhaps one of the more profound abilities model portfolios offer is the transformative power of customization. Model portfolios are by definition somewhat pre-made, but can also be customized for specific client needs.
“Models are bringing in a wide range of passive based strategies, certainly elements that can frame and potentially solve for core exposures in equity or fixed income classes, domestic and foreign exposures, as well as casting a wide net for more niche-oriented solutions depending on the needs of that investor. The ability to customize and tailor these solutions and the popularity of index-based investments are driving the growth of the model marketplace,” says Ryan Sullivan, head of the Americas buy-side team in the index investment group for FTSE Russell.
Model portfolios have evolved to provide a wider spectrum available for customized plans. Picard adds, “There’s mass customization and then there’s individual customization. At this point in the model portfolio space, there’s a broad range of categories. You can identify a range of risks and customize portfolios to help mitigate those risks.”
He also adds that model portfolios can even be utilized as part of a comprehensive retirement plan. “An area of focus, which is growing rapidly is income-focused model portfolios. There’s the ability to build model portfolios focused on income generation, which can be customized for different risk levels. For clients where tax is a key focus, tax aware investing practices can be utilized through a model portfolio structure, too.”
Model portfolios can be used to marry the best of active and passive investment management. Institutions wade through thousands of available ETFs and mutual funds figuring out how much to allocate to each asset class. Those baskets of investment are then available for investors to choose their level of customization – with the knowledge that an investment professional was the one to make the allocation.
All for One and One for All
Innovations in fintech have given a springboard to the model portfolio trajectory. Portfolio allocation and aggregation tools give advisors, institutions, and managers enhanced ability to service their clients, but they also open the investing space for new investors.
“I think the theme of personalization can exist for the more sophisticated and high net worth investors, but it also helps democratize it for lower balance or newer investors in the marketplace when they can use these tools,” says Sullivan of FTSE Russell. Working with an advisor, such investors are “able to enter models early on in their investment life cycle, with the options of personalizing that a bit, and tailoring it to where they want to see exposures or where their values may exist. So that technology aspect really underpins a lot of these solutions,” says Sullivan.
Indeed, model portfolios may well offer retirement plans in particular a stepping stone to institutional-grade investment expertise. Paul notes that “this is a business model that was reserved for the largest sovereign wealth funds and the largest pension funds in the world, and now it’s being made available to individual investors. My hope is that this goes a long way in helping them save for retirement and helps solve for the retirement crisis.”
1 Source: BlackRock, “Which advisors had a smoother ride during COVID-19?”, 2021.
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