As family offices move aggressively into the realm of direct investing, they are diverging from the traditional investment approach taken by most institutional investors. Two highly experienced investors—who have sat on both sides of the advisor table—explored how families are building successful direct investing programs and explained why institutions are wary to follow suit. They discussed internal and external resources needed for families to pursue direct investments in a sophisticated way and explained how the trend for direct investing is forcing many traditional investment advisors to evolve their current practices to meet new client demands.
- In the past, institutional investors have been considered “the smart money,” often leading the way in sophisticated investing. Most institutions today pursue a “managers of managers” approach (often called the endowment model).
- Family offices are actively pursuing—and increasing their appetite for—investing directly in real estate and operating businesses, bypassing managers. Family offices are leading this path in direct investing in operating companies while large institutional investors continue to invest through private equity managers—although some may pursue co-investing alongside the GPs.
- While the average allocation to direct investments in operating companies for family investors is 8% (per FOX research), the average allocation to direct investments in private companies among institutional investors (per industry data) is closer to 1%.
- Approximately 30% of institutional investors enhance their private investment fund exposure with allocations to co-investments offered alongside the general partner. Thus, close to 70% of institutional investors do not hold direct investments at all.
- As a general rule, families engaged in direct investing tend to focus on sectors in which they have expertise. Families agreed that building a team in a family office can be challenging.
- There were varying opinions on what will happen during the next economic downturn and if families will retreat from direct private investments. The counter argument is that those families that are “all in” may increase their allocations as they see more attractive valuations.