Financial advisors are prioritizing the use of model portfolios over funds of funds (FoFs), according to The Cerulli Report—U.S. Product Development 2024. The value and level of customization offered by model portfolios is appealing to both financial advisors and asset managers.

As model portfolios continue to proliferate, 61% of advisors expect to prioritize their use over FoFs. According to the research, fewer than half (44%) of financial advisors report using the FoF structure, and just 8% expect to increase their use of FoFs in the future. Advisor-directed assets placed in FoFs are generally used for core client segments with lower investable assets, for which advisors prefer to use active strategic funds and remain split on whether the fees charged by FoFs are commensurate with the level of value they provide—a key reason advisors expect to deprioritize their use in the future.

“The FoF structure is under pressure as it continues to conflict with part of the value proposition of financial advisors as portfolio managers, while other solutions, such as model portfolios, serve as a happy medium offering outsourced full-portfolio solutions that enable customization at the hands of advisors,” says Matt Apkarian, associate director.

Asset managers share a similar sentiment. According to Cerulli, nearly two-thirds of asset managers report that FoFs encroach on the value proposition of wealth manager portfolio construction, including model portfolios built by wealth manager home offices and advisors who prefer to build custom portfolios for clients. This creates a significant barrier to moving products past gatekeepers and onto product shelves at key platforms. Similarly, a barrier is faced at the level of the gatekeeper and individual advisor regarding fees, where the layers of FoF expense ratio and expense ratios of underlying products are heavily scrutinized.

“While the FoF structure will continue to be a mainstay of defined contribution retirement plan lineups, the use of the structure outside of 401(k) plans will be limited,” says Apkarian. “Instead, more customizable solutions, such as model portfolios, are available to advisors with whom outsourced investment management aligns and will be preferred going forward.”