When an outside fund loses a star manager or changes its investment strategy, advisors may be forced to switch providers sooner than they’d hoped. That can prompt probing questions from clients — especially if the fund in question has been performing well. Advisors should use the firing of mutual fund or separate account managers to reinforce their own investment processes with clients, say experts. Whenever possible, they should try to explain how the move fits in with an investor’s longer-term interests.
If nothing else, a fund switch gives advisors a chance to review with clients the procedures for vetting, hiring and firing managers. “It’s always important to let clients know that every purchase comes with some sort of an exit strategy,” says Melissa Joy, investment director at the Center for Financial Planning in Southfield, Mich., which manages $872 million. For example, she and her colleagues decided in late 2009 to unload positions in the TCW Total Return Bond Fund. Lead manager Jeffrey Gundlach, then a rising industry star, had recently left in a very public fight with management. Joy used the occasion to remind clients that her firm monitors external managers for a list of possible red flags — and explained that in TCW’s case, a couple of flags had been waving.
It helps when clients know their advice firm doesn’t fire managers lightly. About five months ago, Dowling & Yahnke in San Diego, Calif., which has $2.5 billion under management, started to unload positions in the Longleaf Partners Small-Cap Fund. The fund had a strong track record and was popular with long-term investors, but its managers had let cash holdings swell, according to advisor Paul Temby. “If we wanted to hold a large portion of our allocation to small-cap stocks in cash, that’s something we could do ourselves,” he says.
The decision to fire Longleaf’s managers in favor of a team from Dimensional Fund Advisors was the first wholesale change in Dowling & Yahnke’s small-cap stable in six years, Temby adds. He estimates that a typical client portfolio with 60% stocks and 40% bonds will buy and sell fewer than 5% of its assets in any given year. By comparison, a similar moderate-allocation mutual fund turns over 62% of its assets per year on average, according to Morningstar. “Explaining to a client about how you try to keep portfolio turnover to a minimum can go a long way in reassuring clients that your process is stable and disciplined,” he says.
Clients should also understand that they may see more manager changes in some parts of their portfolio than in others, says Kevin Ashworth, investment director at EP Wealth Advisors in Torrance, Calif., with $1.7 billion in assets. Last year, his firm sold its positions in Janus Triton. The small-cap growth fund had lagged its rivals early in 2013, but the loss of two key managers at midyear was “the final straw,” according to Ashworth. As small-cap stocks are notoriously volatile, he is a little less averse to proactively firing a manager in that category than he would be with, say, a large-cap stock fund.
That concept can take some explaining. But Ashworth finds including some discussion of market trends when talking with clients can build confidence that the firm’s advisors are watching out for their overall financial well-being. Ashworth also warns investors about the potential impact of a manager switch on their tax situation.
“Firing a manager doesn’t have to stress out a client if the move is telegraphed in advance through a proper discussion of your investment process and how it fits into each individual investor’s longer-term financial plan,” he says.