The generation rising to take the helm of family offices is more at ease with alternative investments than is the case with its elders, driven by different wealth-creation objectives. The trend is set to continue, a firm argues.
The younger generation of wealth owners are keener on alternative investments than their predecessors, so iCapital Network argues based on research it undertook with 157 single family offices in the final three months of last year. iCapital Network is a financial technology platform giving access to alternative investments, so perhaps it is understandable that the firm should trumpet such a finding. Even so, the size of the survey and findings are, if representative of the wider North American family offices and wealth management sector, food for thought.
Alternative investments haven’t always had it easy in recent years, particularly in the hedge fund space where the bull market in equities, driven by low/negative interest rates after the 2008 financial crisis meant traditional long-only investments appeared an easy, inexpensive choice. But with volatility rising, and signs that days of easy stock market wins are over, hedge funds can shine again (and there are specific strategies that have fared relatively well).
In areas such as private equity, venture capital, infrastructure, private debt and forms of real estate, there have been strong inflows, as data collected by groups such as Preqin suggest. A hunt for yield and willingness to tolerate lower liquidity, appear to be driving family offices to alternatives. And investment chiefs are, it seems, mindful of the “Yale Model” idea (adopted from Yale University’s endowment fund asset allocation approach) that it is only worth holding alternatives such as private equity if significant percentage stakes are held, such as five per or above.
iCapital said that its Q4 2017 survey of 157 single-family offices found that nearly nine out of 10 respondents said they allocate 10 per cent or more of their portfolio to alternative investments and nearly one-third of single-family offices allocate more than 15 per cent to alternatives (Figure 2).
Figure 1: Investable Assets of SFO Respondents
24.2 per cent US$250 million - 500 million
43.3 per cent US$500 million - US$1 billion
32.5 per cent > US$1 billion
Figure 2: Percentage of Financial Assets in Alternatives
13.4 per cent <10 per cent
59.9 per cent 10 per cent-15 per cent
15.3 per cent 15 per cent-20 per cent
11.5 per cent >20 per cent
“Interestingly the single-family offices in our study that were run by second-generation family members were more likely to maintain higher overall allocations to alternatives, more likely to be investing in private equity, hedge funds and direct deals, and more likely to increase those investments moving forward when compared to offices run by the first generation,” iCapital chief marketing officer Hannah Shaw Grove said in a report on the findings.
The firm said SFOs beginning to transition day-to-day control of operations to second generation family members, the investment preferences of the younger generation became more relevant. iCapital therefore segregated family offices still managed by founding family members (G1) from those that have transferred control and legal ownership of the family office to the second generation (G2) to understand more about how the two generations view alternatives.
About 40 per cent of second generation SFOs invest 15 per cent or more of their total portfolios into alternatives, compared to 20 per cent of first generation SFOs that are investing at similar levels. “This difference is driven by a sophisticated subset of second generation family offices who are allocating over 20 per cent of their financial assets to alternatives. Second generation single-family offices in general are also inclined to invest in more types of alternatives, particularly direct deals,” the report’s author continued.
“Going forward, a larger percentage of second generation single-family offices are much more likely to make greater use of the full range of alternative investments (Figure 3) and these forward indications mirror what family offices have actually done over the past year,” Shaw Grove said.
Almost a third of second generation single-family offices surveyed increased their hedge fund exposure, compared to just a tenth of first generation single-family offices. Some 71.4 per cent of second generation family offices increased their direct investment allocations relative to last year, compared to less than half of the first generation family offices surveyed.
Figure 3: Generational Split – Likelihood of Increasing Alternative Investments
G1 41.7 per cent
G2 51.4 per cent
G1 22.9 per cent
G2 59.0 per cent
G1 56.2 per cent
G2 82.0 per cent
Shaw Grove said one reason for the increased appetite for alternatives is that second generation family office figures aren’t so preoccupied with guarding the wealth they have built from business; heirs see family wealth as a more “meaningful” driver of wealth – hence higher interest in alternative investments. Heir also have more professional investment experience, lending itself to greater interest in new investment fields.
“We also noted a pronounced overall difference between the two generations with respect to the assets they are managing. Generally speaking, the first generation single-family offices are investing greater sums. These differentials are driven in part by wealth dilution from the founder of the family office to multiple heirs. Lesser absolute amounts of wealth may also be contributing to the shift in mindset from wealth preservation to wealth accumulation, driving a reexamination of investment strategies and allocations as well as institutional best practices. Simply put, second generation single-family offices appear to be actively looking for higher returns and expect alternative investments to provide them,” she said.
Regular FWR contributor Diane Harrison also noted aspects of these findings and implications for wealth managers in this article here.