Cutting Out the Middlemen: Family Offices increase direct investments into corporates.
October 27, 2016
“If we return 2%, it’s good. If we return 3%, it’s phenomenal. If we return 4% - someone gets fired”
As we hurtle towards the end of the year (where did it go?) I thought it may be useful to discuss the investment allocations and strategy from 2015/16 in family offices.
The quote at the top of the piece is from a conversation with a family office post financial crisis, where the ideal position was fully defensive.
How times have changed. Now most family offices, in line with their professionalism and growth agendas are targeting returns between 6-15% a year. The offices that more closely follow a private equity model are even leveraging investments using debt, a deal structure that most would not be able to stomach a few years ago.
Most of the offices and capital we speak to in our Deals Family Office team are seeking corporate investments, and even those who look at bonds or equities as part of a blended asset pool will not entertain the 3-5% corporate bond returns that are available in the markets.
This is seen across the board. The latest Global Family Office report by UBS shows a downward trend in allocations to hedge funds which will typically invest across bonds, equities and commodities. One reason could be the disappointing performance of funds which have underperformed the indices (since the financial crisis) quite substantially, by around 9.5%. The other reason, certainly as our conversations with clients have found, is the genuine allure of direct investments. This is all tempered with the addition of the hefty fees paid to managers, many of whom have lost their sparkle in the last few years.
Again, across the board, the allocation to direct investments is growing. 49% of all family office participants in the 2016 FOX Global Investment Survey (for our family office team this percentage is 90%), and 46% of the total participants who currently do not engage in direct investments, plan to so in 2017. In 2015, the direct investment returns were 18% for corporate investments (15% for real estate, which is counted as direct in Fox’s methodology, but not for our own analysis). There’s no business like direct business.
So the returns are superior – but what are the challenges? The family offices we’ve been speaking to over 2015/16 are seeing a shift from the challenge of accessing quality deal flow – which was a primary concern when we formed the Family Office Deals team in 2015- into the challenge of being able to accurately evaluate e and diligence the opportunities put in front of them.
Many, including our clients, outsource this role to their current advisors, but c. 40% currently have a CIO and are planning to grow their investment team to work better with their advisors to evaluate the opportunities.
In terms of specific sectors or geographies, we see the following as being key priorities in 2017: Financial Services (including Fin Tech) for its strategic growth potential, Retail & Consumer (particularly in the UK and Europe, given the uncertainties) for its cash generation potential, and Industrials, specifically in emerging markets, where a lot of families in the region have their roots in industry.