Turning data into insight on successful family offices

What’s the secret to success? For family offices, success often lies in their investment strategy and the details of their asset allocation.

Following our recent blog post on family offices’ service excellence, we will examine what data can tell us about their success factors and how they differ in style and results from wealth and asset management for ultra-high net worth individuals.

“If you saw one single family office, you saw one” is a well-coined industry phrase and one that we agree with. After all, each setting is individual and should cater to the family’s unique and specific needs.

Successful family office investments

Still, some best practices are common to industry leaders in approaching their investments. The dedicated focus on asset allocation is one of them.

Taking calculated risks, alternative investments, and spotting relevant investment themes are a few more.

Family offices are long-term investors with extensive alternative investment exposure that keep the ability of dynamic choices to react to changing circumstances.

These characteristics go hand-in-hand with a sustainable focus to navigate stressful events over generations.

Read on to learn more about their not-so-secret sauce for successful investment performance.

Family office asset allocation

Asset allocation is an essential constituent of every investment strategy to diversify investments and balance risks and returns. This part of the investment strategy and process is rarely outsourced and core to a family office.

Family offices are long-term-oriented service entities built for and around a family, and they are ideally positioned to understand and define the family’s investment objectives, risk tolerance, and time horizon to preserve wealth over generations.

Strategic asset allocation

According to the UBS Global Family Office Report 2021, the global average family office strategic asset allocation dedicates 32% to equities, 18% to fixed income, 18% to private equity, 13% to real estate, 10% to cash, 6% to hedge funds, and the remaining 3% to gold, precious metals, commodities, and art and antiques.

There are regional variations. For example, in Switzerland and the USA, family offices have higher exposure to private equity (21%), while Asian family offices favor equity investments (46%).

Low interest rates have significantly reduced fixed interest allocations in the past, and the search for alternative diversifiers called for increasing investments in private equity and hedge funds. 

The UBS 2023 data report an average strategic asset allocation of  31% to equities, 15% to fixed income, 19% to private equity, 13% to real estate, 9% to cash, 7% to hedge funds, 2% to private debt, 2% to gold and precious metals, 1% to commodities, 2% to art and antiques and less than 1% to infrastructure.

This means that 55% are allocated to traditional asset classes and 45% to alternative asset classes. Due to the current microeconomic circumstances, substantial ongoing shifts are expected for fixed income, hedge funds, and private equity allocations.

Tactical asset allocation

To avoid the asset allocation becoming static, 72% of family offices deviate tactically to seize short-term opportunities. There seems to be a trend of increased tactical asset allocation activities, driven by a changing macro environment.

The role of cryptocurrencies

While cryptocurrencies in the past years seemed to play a role in tactical asset allocation, 56% of the family offices now invest in digital assets, including cryptocurrencies and distributed ledger technologies. However, 38% of family offices still invest less than 1% of portfolio assets.

35% of family offices investing in distributed ledger technologies plan to increase investments. Specifically, 27% plan to do so in cryptocurrencies and 25% in decentralized finance.

Crypto assets may prove their effectiveness to protect against inflation, and macroeconomic scenarios over time and thus family offices cannot ignore the continuous growth in the crypto assets field.

Wealth management asset allocation

The above suggests that a family office typically takes an institutional yet dynamic asset allocation approach with 45% of alternative investments.

The substantial allocation to alternatives may be the most significant difference to wealth and asset managers’ allocations in their model portfolios for ultra-high net worth individuals that already tend to have high alternatives exposure.

As outlined below, this is a decision and a question of the suitability to implement it.

Risk management

The current top concerns of family offices are global geopolitical circumstances, recession, and rising inflation rates. Thus, balanced portfolios with active management seem to be the preferred choice for family offices.

Based on UBS’s risk/return simulations, risks are taken in a controlled fashion, another characteristic of an institutional approach, and with a specific focus on currency hedges that pays off.

Low interest rates posed challenges in many ways in the past. Hoever, more than a third (37%) of family offices are now investing in high quality, short-duration bonds as a popular source of diversification in fixed income.

Family office investment themes and regions

The investment themes dominating this decade will mostly be related to environmental and social issues.

Over 86% of family offices will perform equity investments in health tech within the next two to three years, closely followed by digital transformation themes that will attract family office capital.

More than 70% of family offices will invest in automation and robotics, smart mobility, and green tech.

It’s no surprise that the regional focus shifts towards Asia to participate in the robust growth. In particular, more than 70% of Western European family offices target an investment shift to Asia.

In comparison, US families still have the most significant home bias regarding investment location and invest 79% of their assets locally.

Asian families traditionally invested outside of the home region. However, with current holdings of 55% local assets, this is changing now and converting into a home bias and contributing further to Asia’s attractiveness. 

Conclusion on family office asset allocation

Let’s conclude on this first part: family offices place high importance on asset allocation, both at a strategic and tactical level.

The allocation approach is institutional yet dynamic, with an impressive portion of alternative investments.

Still, risks are taken in a controlled fashion. 

Environmental and social issues will drive this decade’s long-term thematic equity investments trends, and Asia is ready to attract additional family office capital from old economies.

Family office private equity investments

Let’s see what UBS’s data tell us about the importance of private equity in family office portfolios.

68% of family offices attribute a central role to private equity, and 75% believe in higher returns than public equity, while 44% see it as a source of diversification.

52% appreciate private equity’s broader opportunities, and 25% are driven by the business owner’s passion for private equity.

Trends in family office private equity investments

We’ve seen some remarkable developments in the last two years. According to UBS’s 2020 data, 77% of family offices were invested in private equity.

In 2021, the percentage increased to 83%. At the same time, investments in funds or funds of funds dropped from 37% to 23%.

The investment mix of both funds and direct investments increased from 31% to 47%, and exclusive direct private equity investments, i.e., no funds exposure, increased from 28% to 30%.

Family offices' research capabilities

In 2020, 70% of family offices had their own research team to assess opportunities, and currently, 57% use intermediaries such as banks to access investments.

This collaboration is motivated by intermediaries’ gateway to otherwise hard-to-find assets and their institutional knowledge of underlying markets.

Further insights

The above suggests that the asset class has become more accessible and that secondary markets have overcome liquidity constraints to a significant extend.

Another conclusion is that family offices have built substantial due diligence and risk management capabilities to achieve higher returns.

The two preferred focus areas are expansion/growth equity investments (77% with the highest proportions in Switzerland (86%) and the US (92%) and venture capital (61%).

The often entrepreneurial background of principals may be a reason for such preferences, although family offices prefer to enter the scene at a later stage or pre-IPO.

Private equity in wealth management

The above puts wealth and asset managers under pressure to enhance their private equity offering at competitive costs, which is good news for wealth owners who don’t run a family office.

Still, options become broader and presumably more compelling with a family office due to the entrepreneurial experience in the favored private market segments.

Family office venture capital

Since venture capital is on an upward trend, we’ll have a closer look at how family offices approach it.

Contrary to private equity that invests in more mature businesses and preferably holds the entire share capital, venture capitalists invest in younger firms in exchange for part of the share capital expecting higher returns as illiquidity premium and running higher risks.

According to the SVB Capital and Campden Wealth 2020 Family Offices Investing in Venture Capital Report, investment opportunities in venture attract family offices due to returns, the natural feeling of investing in private companies in line with the family’s DNA, and diversification.

Family offices' role in venture capital

Family offices play an essential role in the annual USD 250+ billion investment market and have increased the number of deals closed six times over the past decade. They invest either directly or through funds.

Since established funds are often oversubscribed, family offices focus on emerging funds that allow for lower management fees, co-investments alongside the fund, and higher return potential. However, they require sophisticated due diligence and come with higher risks.

Funds of funds also offer exposure to established funds, but due to their entrepreneurial background, it’s no surprise that family offices generally prefer direct investments over funds.

Family office venture capital allocations

According to SVB Capital and Campden Wealth, the average venture capital allocation is 54% to direct investments and 46% to funds.

19% of the VC allocation goes to co-investments, 14% are minority stakes, 9.1 % are majority stakes, club deals account for 7.7%, and secondaries for 3.1%.

The preference for co-investments and minority stakes stems from appreciating other investors’ complementary skills and the shared due diligence burden. Direct funds attract 34% of the VC allocation and funds of funds 12%.

Within the life cycle of venture capital investments, early stage (91% of VC invested family offices) and growth/expansion stage (87% of VC invested family offices) are dominant.

The average family office venture capital portfolio based on 2020 data comprises eight venture funds and ten direct investments.

At the time of this writing, numbers are already at ten funds and 17 direct investments, with the outlook to increase by another six funds and twelve direct investments over the next twenty-four months.

The average portfolio’s internal rate of return in 2019-2020 has been 14%, direct deals at a minority stake perform at 17%, direct funds at 16%, and direct co-investments at 15%.

Family office direct investments

Family offices are patient, sector-focused, and active role investors and thus popular with startups looking for patient and smart money.

In particular, in innovative spaces, founders may choose their investors and appreciate these attributes. That’s one of the reasons why family offices expect to overtake strategic and corporate VC investors in the race for the best seat at the cap table.

However, traditional VC investors will continue to dominate the field.

Investment motivations and targets 

The main reasons for family offices’ direct investments are to explore a more significant return potential than with fund investments (38%), the principal or family like to get involved with operators and in operations (17%), and the ability to pick the best deals (14%).

North American and European family offices are the most active direct investors and tech industries with frontier technologies, life sciences and healthcare, consumer technologies, and enterprise technologies seem to attract specific interest.

Still, the technology and healthcare sector does not see family offices as their primary source of funding.

Investment process

Family offices source direct investments via their own network, networks of founders or operators, and via general partners of venture funds. Lawyers, investment bankers, and private bankers are other sources.

Directly invested family offices are active investors since 72% provide direct guidance to investees, 70% participate in the board and facilitate connections to other investors.

Almost half of the directly invested family offices provide financial advice, enable links to new customers and assist with operational guidance.

Although appreciated for their business know-how and networks, family offices compete against abundant capital, chasing the best deals.

Other entry barriers are high valuation levels, tight internal resources, and limited domain expertise.

Co-investments and syndication

That’s why syndicated deals with a single deal fund or special purpose vehicles established by the syndicate lead to investing in startups are popular to share risks, complement skills, and get access to large deals.

Co-investments in the same funding round alongside other families or venture funds are also rising but require specific alignment between participating families.

Wealth and asset managers’ VC capabilities

Meanwhile, wealth and asset managers have launched venture capital strategies to expose their clients to high-growth sectors. Dedicated platforms are rising, and banking institutions are active VC investors, particularly in the fintech sector.

Still, private investors’ allocations are marginal compared to institutional investors, even if ultra-high net worth investors may also have a long time horizon.

One reason could be the high-risk profile of the asset class and the correlated need for broad diversification to compensate for eventual failures of single investments.

As outlined above, the average family office invests in ten venture funds and seventeen direct investments.

The current state of the venture capital market

According to Preqin, an alternative assets data and analytics provider, as of October 2021, 3’525 venture capital funds in the market have been targeting USD 287 billion this year.

Their estimate of the venture capital assets under management as of March 2021 is USD 1’683 billion. According to their research, the top-quartile vintage 2018 venture capital funds posted net IRRs of 42%.

With the recent success of public markets, venture capital firms benefit from a favorable exit environment. The record-high investment volumes year after year leads to concerns that the market may overheat.

We don’t claim any authority to comment on that but instead quote Preqin’s question, “Does the record-breaking funding reflect the increasingly urgent need for solutions in sectors like healthcare, cybersecurity, fintech, and enterprise software?” 

Family offices and sustainable investments

Let’s come back to UBS’s data pool: 56% of all family offices invest sustainably.

The leading regions are Western Europe (72%) and Asia (68%). The average global family office portfolio is expected to hold 24% of sustainable investments within five years.

The top three sustainable investment themes for 2021 are education, climate change, healthcare, health tech, and medtech.

The main reasons for sustainable investing are responsibility, doing the right thing for society, and the conviction to follow the primary way of investing in the future.

Impact investing

There’s no widespread concern about giving up returns but a need for further education. In particular, for impact investments, there is uncertainty around measuring impact.

Still, impact investing fills the pipeline for direct sustainable investments, which may be why impact investing is expected to grow in the future significantly.

Sustainability evaluation and approach

When it comes to evaluating sustainable investments, based on UBS’s 2020 data, family offices’ top performance metrics are return on investment (43%), social return on investment (22%), and environmental impact (12%).

While exclusion-based strategies are still dominant, integration is gaining traction.

Although family offices ramp up their sustainable investing capabilities, inclusion-based approaches seem to be implemented instead with external fund managers.

Sustainability in wealth management

Regarding the differences to private investors, please allow us to make a few assumptions.

In our view, family offices probably hold more innovative sustainable investments than UHNWI because of their preferential access to private equity and venture capital in investment themes defining industries.

We would also assume that they outperform private investors with their impact investments. Why?

The smaller niche players are delivering on impact measurement and valuation methodologies but, due to their size, don’t make it onto the product shelf of large wealth and asset managers.

Furthermore, family offices and family foundations come with some of the most inspiring impact investing stories that combine their entrepreneurial approach with an ethical and structured investment process.

Such exciting stories enable sacrificing some part of the return to achieve impact and strike a convincing balance.

It has to be mentioned that generating returns and making an impact at a large scale, a postulate to reach a broad audience of private investors, is no straightforward undertaking.

A view through the family office lense

If you are a wealth owner and doubt whether a family office is a proper solution for you, the above data may provide the answer.

The analyzed data also include multi family offices and the reviewed solutions can be implemented with virtual family offices.

There are many other aspects to consider, but you’ll find some convincing pro-family office arguments in it.

Making the difference

It’s not news that alternative investments have been making a difference in asset allocation and portfolio performance for already some time.

Although the asset class has opened to a broader audience, the enhanced wealth and asset management’s offering is on an uphill battle in competing with the family offices’ sophistication and individualization level.

Where to focus

Private equity and venture capital require specific capabilities to achieve institutional results.

Family offices have continuously refined their game in the field over the past years and are well-positioned to expand their industry position further.

Smart and patient capital is sought after and may further benefit family offices at the cap table.

Furthermore, we believe that family offices have an excellent proposition for impact investing.

Their entrepreneurial innovation, structured and focused approach, long-term views, and purpose-driven commitment may uncover underlying value that is otherwise hardly accessible. 

Is there a secret to family office success?

Not really, since the above data are all in the public domain.

However, we presume there’s a clear formula comprising the combination of giving up liquidity and staying power within an institutional risk management framework.

Strategic and tactical asset allocation plays a crucial role and is probably the most critical takeaway for private investors, regardless of their wealth.

Combined with long-term alignment, it prepares for navigating stress events. Something family offices have been successfully doing for decades.

The opportunity for private investors

There’s an emerging opportunity for private investors: venture capital is becoming more accessible, with smaller industry players covering promising niches in industries on top of institutional investors’ lists.

Blockchain and artificial intelligence investments are one example of an innovative industry and ecosystem that attracted substantial investments without incumbent financial industry players.

An incubator can be the source of exciting opportunities.

The same applies to impact investing, where engaged investors facilitate and support the market entry of new investors in investment environments away from traditional marketplaces.

Curiosity and creativity combined with awareness and information can write an investment success story without resorting to standard offerings.

Updated 17-09-2023