SAM News

A User’s Guide to Portfolio Customization

Posted by Gerard Michael on Jul 27, 2021


A survey of different types of portfolio customization and their uses.


Every wealth management firm we’ve spoken with strives to deliver “a customized solution.” It certainly sounds like it’s a good idea, but what does it really mean? And how, exactly, does it benefit clients? What customization options are common (i.e., what are your competitors doing), and how costly is it to provide customization? With these questions in mind, we’ve listed the different kinds of customization we see, and describe how each can be used to help investors achieve their goals.


Tax Management

For the purpose of this post, we’re going to mostly confine ourselves to forms of customization other than tax management. We’ll address tax management separately in future posts (see also posts of our parent company, Smartleaf: A Guide to Tax Management, Why We Created a Taxes Saved Report, and Documenting the Value of Tax Management: 2020 Taxes Saved). 


Security constraints, sector constraints and custom asset allocation 

Security constraints (“Never trade IBM,” “Never buy MSFT,” “Never own Ford,” “Never sell GM” )

Security constraints are the most commonly supported form of customization and can serve many purposes:

    • Ethical and legal restrictions
      A lawyer whose firm represents IBM may be prohibited by their employer from trading the security if the lawyer has access to insider information. 
    • Counterbalancing employment or regional risk
      If a client works for Exxon — or if they just live in Houston — they already have exposure to Exxon. It may make sense not to double down on this exposure by holding Exxon in their portfolio.
    • Counterbalancing outside holdings
      Likewise, if a client owns shares of Exxon in another account or owns employee incentive stock options on Exxon shares, it may be prudent to avoid further exposure.
    • Client personal preferences
      Clients may not like a company, either because of a bad experience with the company or a general disapproval of the company’s actions, and they simply don’t want to be an owner. 
    • Client return expectations
      Clients may have negative return expectations for security and wish to exclude it from their portfolio (or at least not buy more). Most advisors discourage this sort of thing in the belief that clients are unlikely to be good at stock selection, and talking about it distracts from more important conversations about financial planning and risk control.

Sector constraints (“Never own Energy stocks”)

The reasons for sector constraints are largely the same. The most common is counterbalancing outside holdings, or counterbalancing employment or regional risk. To use the same example as above, if a client works for Exxon, lives in Houston or has outside holdings in the energy sector, they already have exposure to the success of the Energy sector, and it may make sense not to double down on this risk. Sector constraints can also be used to reflect performance beliefs.

Ethical and legal restrictions on trading an entire sector, rather than individual securities, are rarer, but we have seen it.


Custom asset allocations (“Reduce my real estate allocation to zero”, “Double my real estate allocation to 10%”)

Custom asset allocation is usually motivated by a desire to counterbalance outside holdings. Less commonly, it is used to reflect a client’s performance beliefs.

Social criteria restrictions

Environmental/Social/Governance (ESG) and faith-based constraints (“Never buy Tobacco stocks,” “Never own securities of companies with poor toxic waste spill records” or “Apply a Catholic values screen”)

The motivation for ESG constraints is straightforward: clients simply don’t wish to be an owner of a company whose business or actions they disapprove of. This decision is made independent of return expectations.

Clients may in fact think that bad things will happen to bad companies. That is, they may think that these companies will perform poorly. But this isn’t social criteria investing; it’s just having an opinion on expected return performance.

Social impact mandates (“Invest in securities of companies whose products will help the environment”)

In contrast to ESG and faith-based constraints, this is a positive screen. It’s not about avoiding the bad; it’s supporting the good.

Social impact investing is trickier than applying ESG constraints because it may be hard to create a properly diversified portfolio investing only in firms with the selected positive social impact. 


Product selection

Product selection (“Let’s use a direct index for US large and mid cap, an ETF for small cap and an actively managed fund for real estate”)

For each asset class, clients may have a choice of how they’re going to invest. Common choices include:

    • ETFs
    • actively managed mutual funds
    • actively managed proprietary baskets of securities (i.e., direct ownership that bypasses the mutual fund/ETF structure)
    • actively managed baskets of securities following third-party models (or an SMA managed by a third-party)
    • passive direct index baskets of securities

These choices come with different:

    • price points (ETFs, proprietary strategies and direct indexes being the least expensive)
    • levels of tax efficiency (direct indexes being the most tax efficient; then ETFs)
    • minimum investments (ETFs and mutual funds having the lowest minimums)

The biggest divide is passive/active. Right or wrong, clients can hold strong beliefs in the active/passive debate, and it’s useful for firms to be able to accommodate these preferences.

The next biggest divide is whether to buy ETFs and mutual funds or invest directly in a basket of securities. Direct ownership is more customizable and tax efficient, but usually requires a larger minimum investment.


Cash management

Cash/liquidity constraints (“Min cash = $5,000,” “Max cash = $25,000”)

Clients have different liquidity needs. Usually this takes the form of different minimum levels of cash. It’s a minor, but very common form of customization.

Reserve cash (“Do not invest cash if below $15,000”)

Some clients have regularly scheduled withdrawals. These clients need their cash management to be a bit forward looking. No one wants to invest cash on the 31st of a month, only to have to sell the purchased securities the next day to fund the next monthly withdrawal. The key is to set aside income up to some predetermined threshold (e.g., three months of withdrawals).


Glide paths

Individualized glide paths (“Migrate the client from an Aggressive Growth allocation to a Conservative allocation smoothy over 30 years”)

A “glide path” is a multi-year path for migrating a client’s asset allocation as the client ages. Typically, glide paths move clients to less aggressive asset allocations, with updates on a quarterly or annual basis.



“Transitioning” is the multi-period process of migrating a new client’s portfolio from its current holdings to a recommended asset allocation and security selection. Most new clients have legacy holdings and can benefit from transitioning services. Institutional investors mostly worry about the potential market impact of large trades, and minimizing market impact is their major motivation for transitioning accounts. In contrast, individuals are mostly motivated by tax concerns. They want to minimize gains, especially short-term gains, and spread the costs over multiple periods (either to smooth expenditures or to avoid being bumped up into a higher tax bracket). On occasion, a secondary motivation is “regret avoidance” — spreading out trades over time reduces the chance that everything is sold at a market low.

Tax management, especially tax budgets (“Minimize realized gains while obeying constraints and controlling risk,” “Keep net capital gains taxes under $5,000/quarter”)

The main component of tax-sensitive transition is the same gains-deferral strategy of ordinary tax management. Phrased differently, all tax management, except for loss harvesting, is transition management — you’re managing trade-offs between taxes, drift and return expectations. 

Turnover budget (“Max 5% turnover per quarter”)

Turnover budgets are less common than tax budgets, but can be useful for accommodating a client who may be uncomfortable with a single “big bang” conversion.

Equivalence sets (“This is my recommended holding, but the following securities are “good enough” and shouldn’t be sold if they’re already in the portfolio”)

While advisors and the firms they work for usually have a default recommended product for each asset class, this product may be only slightly preferable to several alternatives. If the client already owns one of these almost-as-good substitutes, there’s no real value in trading them — taxes aside, it may not even be worth the transaction costs. This logic can be addressed by setting up “equivalence sets” for every recommended security.



The above list of customizations is not exhaustive, but it covers most of what we see in practice. Customization, in general, is becoming more common. Automation tools (like those of our parent, Smartleaf) and outsourced rebalancing and trading services (like SAM) reduce the level of effort required by the advisor to near zero. As long as the customization can be stored as a parameter, (e.g., “Never trade IBM”) implementation can be folded into the rebalancing analytics. The differentiating value of customization is not so much in the execution, which is becoming commoditized, it’s in figuring out what type of customization serves the client’s interests. That is where advisors shine. “Delivering a customized solution” is real. It’s feasible, economical and easy to implement.


SAM and Customization. SAM can support all of the customization types listed. Ask us for details.

Gerard Michael
Gerard Michael

President, Co-Founder