Advisor Interest in Long-Short SMAs Nearly Doubles

Nobody likes paying taxes, but these accounts could be the ibuprofen to that headache.

Long-short strategies have been a staple of hedge funds serving institutional and ultra-high-net-worth investors for decades, but they’ve recently migrated into separately managed accounts. That has opened up the strategy to wealth management clients. It’s still early innings, but tax-managed long-short SMAs are quickly gaining popularity. Last year, 33% of advisors identified tax-managed, long-short SMAs as the products they were most interested in adding to their portfolios, according to a Cerulli survey. This year, that figure has climbed to nearly 60%. Improving tax capabilities has also been a top concern for advisers this year. 

“With many wealth managers turning to tax optimization to drive alpha in their portfolios, tax-aware long-short strategies can be a very attractive option to generate additional tax-loss harvesting opportunities,” said Michael Manning, a Cerulli research analyst. The approach can be particularly useful for high-net-worth clients who have appreciated stock positions or are about to sell a business. But advisors must weigh the benefits against the strategies’ complexity, leverage and additional fees, he said.

Who’s Got the Most?

Though long-short SMAs are still relatively new products, some asset managers are recording significant inflows:

• In the first quarter of this year, AQR Capital Management topped the list with the most assets managed in retail, long-short SMAs at more than $55 billion, according to data provided by Cerulli. 
• Behind them was Quantinno, managing roughly $48.3 billion, and in a distant third was BlackRock, with about $9.2 billion.
• Underneath them were Nuveen Investments, Invesco, Morgan Stanley, Natixis Investment Managers and Franklin Templeton, managing a combined $4 billion in assets.

“Only in the last 24 months have we seen this product start to ramp up really drastically,” said John Hill, CEO of Quorus, an asset manager specializing in custom SMAs and model portfolios. Advisors, particularly those on larger teams and at wirehouses, have become increasingly focused on advanced tax planning, he said. “These sophisticated tax strategies are just one component of attracting and retaining high-net-worth affluent individuals.”

A long-short SMA shouldn’t be seen entirely as a tax mitigation machine, though. A solid underlying investment strategy is still needed, said Carlos Diez, founder of MarketGrader, a stock analytics firm that recently partnered with Quorus. “There is a parallel between what’s happening now in these tax-efficient strategies and what happened with the early days of ETFs,” he told Advisor Upside. He noted that the tax benefits created by the ETF structure didn’t detract from the fundamental goal of keeping clients invested in equities for long-term capital appreciation.

The Taxman. Shang Chou, co-founder of Dishmi Capital, said his firm was an early adopter of long-short SMAs. They aren’t for every client, however, given their complexity and additional management fees. “You have to have a very compelling reason to use these strategies,” he said, noting they are best suited for clients approaching major liquidity events.

The US Treasury recently flagged a series of investment products, including 351 conversions and box-spread ETFs, questioning whether some structures abuse tax law. Long-short SMAs were not specifically mentioned in Treasury’s discussion, although they are part of the broader debate over tax-efficient investing. Chou said it would be a mischaracterization to lump the strategies into the same category. “Some think it’s a way for wealthy people to eliminate their taxes, and that’s just not the case,” he said. “There’s a deferral component, but you’re not just throwing away the tax bill.”