Wrap accounts unbundled

In my column in the April 2004 issue of 50Plus Magazine, I discussed the pros and cons of fee-based brokerage accounts and pooled funds. I’ve also received many letters and e-mails from people confused by another product some brokers are aggressively promoting, the so-called “wrap account.”

What they are: Also known as managed portfolios, wrap accounts have been around for about a decade. These programs are available at all major brokerage firms under different names. For example, RBC Dominion Securities offers its Sovereign program while BMO Nesbitt Burns has the Quadrant plan. All operate by investing your money in various asset “pools,” according to your risk profile. These pools are managed by professional advisers, much like a mutual fund.

When you enter a wrap program, the first step is to sit down with your financial adviser and complete a detailed questionnaire designed to determine your investment profile. On the basis of these results, an asset allocation is recommended, and your money is distributed among various investment pools within the program.

The fee for a wrap account may vary according to the pools you hold. For exale, RBC Dominion’s Sovereign program charges 2.5 per cent on its class “A” equity pools (except the Emerging Markets Pool where it is 2.8 per cent), 1.25 per cent on the Fixed Income Pool and 0.65 per cent on the Money Market Pool. Those are the posted rates; if you have a large account, you may be able to negotiate a better deal. There should be no other charges. (Sovereign also offers “F” series pools for fee-based accounts with fees ranging from 0.5 per cent to 1 per cent. But you pay this on top of your annual broker fee, which runs between 1.5 per cent and 2 per cent for accounts of less than $500,000.)

Once in the plan, you’ll receive regular reports (usually monthly) and you’ll review progress with the adviser at least once a year.

Who it’s for: A wrap program works best for people who don’t want to be bothered making day-to-day financial decisions themselves and are willing to pay for the privilege. Once you have worked out your investment profile, the rest is supposed to take care of itself.

Disadvantages: There is no transparency. People constantly ask me whether this or that wrap program is a good choice. There is no way of knowing because the brokerage firms don’t publish the results of the individual investment pools. Plus, since there are several asset allocation formulas, one account at a firm may produce quite different results than another at the same firm.

If you are considering a wrap account, here is how I suggest you proceed.

  • Review the performance of your existing portfolio over the past one, two and three years. This will cover the worst of the bear market of 2000-02 and the bull market of 2003.
  • Complete the questionnaire and see your recommended asset allocation. Compare that to your current asset allocation. If there is a significant difference, think about whether the questionnaire result reflects your situation.
  • Based on the allocation determined by the questionnaire result, ask your broker to provide you with the one-, two- and three-year results from the wrap program, assuming you’d made the move three years ago. Make sure all fees are deducted and that you receive the net results.
  • Compare these to your own portfolio returns. If the wrap account is performing better than your existing portfolio and you are content with the asset allocation that would apply, go ahead. But keep a close watch on the results.

One final thought: A friend set up a wrap account with a broker just about the time the bear market began. She also kept a self-directed account. After a few months, the self-directed account was outperforming the wrap program by a wide margin. The reason was flexibility; the wrap account could only move assets among the various pools. After a couple of years, she withdrew all the money from the wrap program and put it back into the self-directed account where it is to this day. Her broker, who had seen the comparative results, did not try to dissuade her.