Family Offices: Risks & Opportunities
With the basics out of the way, it's time to go deeper into the enigma that are family offices.
We have a saying in the market:
"If you know a family office...well you know one family office"
It's a little inside joke and it basically means that every single family office is different. Unlike other industries it's impossible to generalize what you know about one client to another.
Why is this ?
When I first started covering the client base in 2009, I often wondered about this question. I had been covering Hedge Funds on behalf of Goldman Sachs in New York. A business that was scalable and covering Family Offices is a totally different experience.
You have to spend more time understanding clients and how they work.
After an year of observation, I found the answer.
Family Offices are all unique because the families and individuals behind them are unique. Family Offices reflect and channel the views, opinions and decisions of the families whose wealth they manage.
It is their money after all.
Family Values:
I bet your investments reflect your values and traditions. They probably reflect a vision, a goal. This is even more true for Family Offices.
What they do and how they do it is a reflection of the Family's opinion and what they are looking to accomplish.
Some are just after an investment return - 12/15% per annum, so you will see them going all into Private Equity and Illiquid Investments.
Others believe that the real goal of their money is to have an impact. They want to make the world better. They will be more focused on ESG, SRI and Impact Investments.
There are countless variations in the middle.
Before you try to understand what a family office will or won't invest in - it's better to understand the family behind the office and what they are trying to accomplish.
Why did they create the Family Office in the first place ?
What is the family looking to achieve ? Is their a goal or purpose ?
This can get complicated quickly when it comes to 2nd and 3rd generations, because you go from an individual's vision, to multiple visions.
The one big generalization you can probably make is that 1st generation Family Offices are going to be more driven by an individual's preference, where as a 2nd or 3rd generation Family Office will function more as an endowment, foundation or asset manager.
Let's start with the second and third generation Family Office first, since more than 50% of Family Offices in Europe function like this. We can come back to the first generation Family Offices later.
The core of the second and third generation Family Offices strategy can be called the Third-Party Managed Strategy:
Key characteristics:
1. Investors usually have a benchmark and are compensated for outperforming the index.
2. Use a global custody platform that can handle and book funds, securities and OTC assets. Smaller family offices can use private bank discretionary portfolios.
3. They find, source and select investment opportunities that fit their goals. The bulk of their assets are outsourced, limiting the size (and cost) of internal teams.
4. Their portfolio is diversified across a range of asset classes, regions and sectors.
What do they need:
1. A functional capital markets desk for capital markets activity and execution – for example to execute FX forwards, equity swaps, and interest rate hedges.
2. Intellectual capital and capital markets advice around markets and investment ideas.
3. An asset management platform with a mixture of strong internal product and externally sourced world-class ideas.
4. Independent advice around asset, industry, sector and style allocation.
5. Flexible lending platform to provide lending versus PE/HF/RE portfolios or provide bridge financing for PE draws.
Problems clients face:
1. Lack of good investment managers who can beat their benchmarks.
2. Limited internal resources and lack of quality professionals .
3. Higher portfolio drawdowns than they are comfortable with while trying to meet their benchmark.
4. Difficulty in managing the relationship with the owner, particularly around investment strategies.
5. Difficulty in monitoring their portfolios in real time, and lack of reporting tool that can consolidate and report their dispersed holdings.
The questions I ask clients at the beginning:
- What are you trying to accomplish / why does the Family Office exist ?
- What are your return, volatility, income, liquidity goals ?
- Do you want to be in control or do you want to outsource your investments ?
- How has your investment approach changed in the last twelve months ?
- How will you be investing differently 12 months from now ?