A wrap account is a professionally managed investment portfolio managed by a brokerage firm for a fixed fee payable quarterly or annually. The charge is calculated depending on the total amount of assets managed (AUM). It is all-inclusive, covering all administrative, commission, and account management costs.
Wrap costs typically vary between 1% and 3% of AUM.
For many investors, a wrap account is less expensive over time than a brokerage account that charges trading commissions. However, a commission-based fee structure may be preferable for the buy-and-hold investor who rarely sells holdings.
Recognizing the Wrap Account
A wrap account protects the investor against overtrading, which occurs when a broker buys and sells assets in the account in excess in order to make more commission money. This is referred to as “churning.”
In a wrap account, the broker gets paid a percentage fee depending on the total assets in the account and is thus driven to maximize the return on investment.
- A wrap account is a brokerage service that charges a flat fee based on total assets under management.
- A wrap account may be less expensive for active investors than one that charges a fee on each trade.
- The broker’s objective with a wrap account is to maximise profits rather than create trading fees.
Traditional Accounts vs. Wrap Accounts
Individual investors can use a wrap account to gain access to professional money managers who mainly work with institutions and high-net-worth people. Wrap accounts with access to a vast variety of mutual funds are also available from mutual fund firms.
A wrap account may need a minimum investment of $25,000 to $50,000. The initial investment requirement for a mutual fund account with a wrap charge is often substantially lower.
Long-term investors who buy and keep stocks may benefit from a typical fee structure. The fees cover the costs of marketing and distribution, as well as payments to brokers who sell the funds and deal with customers. A mutual fund wrap account investor will be charged an extra fee for this service.
A wrap account is ideal for investors who desire some hands-on management and counselling. Investors who follow a purchase and hold strategy for their stock portfolio may be better off paying the account’s periodic trading fees.
For example, an income-oriented investor may maintain a portfolio of dividend-paying stocks and bonds for years with few, if any, changes.
If the investor subsequently sells the stocks, he or she may face significant capital gains taxes since the cost basis of each asset may be significantly below the current market price.
The investor could be better off keeping the portfolio in order to collect dividend income. There are no capital gains taxes to pay, and there are no commissions or wrap fees to pay.
Moving the assets into a wrap account would have resulted in higher charges and a worse overall return for the investor in this situation.