The average performance of family offices was particularly weak in 2015. However, this is reflective of a challenging year for the global investment industry as a whole, paired with a desire for more illiquid strategies. John Schaffer delves deeper into a report by Campden Wealth and UBS
Family offices performed poorly in 2015, with investment returns averaging 0.3% in 2015, according to a report from UBS and Campden Wealth Research: Global Family Office Report 2016.
The report, which surveyed principals and executives from 242 family offices, indicates that family office performance of 0.3% returns was disappointing in comparison with 6.1% in 2014 and 8.5% in 2013.
Philip Higson, vice-chairman of the global family office group at UBS Wealth Management, says the poor performance was not particularly surprising as “virtually everything was difficult in 2015”.
Higson adds: “Although it looks like a grim story, if you look at 2016 year to date and if family offices had kept the exact same exposure, their portfolios are going to be up about 5–6%. We shouldn’t throw the baby out with the bathwater based on one year of poor performance.”
The report indicates that in 2015, Europe produced the strongest regional performance with portfolios up by 0.6%, compared with 0.3% in North America, 0% in Asia-Pacific and -0.6% in Emerging Markets.
The report also found that there were significant differences in risk appetite for family office clients, dependant on geography.
The research found that there had been an overall increase in the percentage of family offices that are pursuing a growth strategy – from 29% to 36%. Family offices in the US had the biggest skew towards growth strategies at 63%, whereas European family offices exhibited more conservative strategies, with 53% opting for balanced strategies and 33% opting for preservation strategies.
Higson says that the appetite for risk in the US is due to family office clients being the first generation and therefore usually business owners. He adds they are more likely to engage in riskier investments due to their experience from business interests, and they tend to find preservation strategies “boring”.
In contrast, Higson says there is a lot more old money present in Europe, with family office clients favouring a conservative, preservation approach.
Higson says that the performance of US equity markets have historically been better than European markets – instilling a certain amount of confidence amongst investors. “For almost any period of time, dollar returns have been better than European equity markets”. He adds that equity culture is a lot stronger in the US, suggesting there is more investor confidence in the political climate than in emerging, and sometimes, European markets.
A surprising finding in the report is that investment risk is no longer as top-of-mind for the ultra-wealthy. In particular, cybersecurity poses a significant risk, with 15% of family offices experiencing a cyberbreach within the last year, with the majority resulting in losses of $50,000 or less. Succession planning is also becoming of paramount importance for ultrawealthy families.
According to the report, 43% of family offices expect a generational transition within the next 10 years.
This process can result in significant disruption, and is the primary reason for beneficial owners to change family office structures and management teams. Asked what the main governance priority was for the next 12–24 months, family offices put the implementation of a succession plan at the very top of the list.
Higson believes succession is becoming more of an issue because the majority of family offices were created in the 1990s, and wealth transfer is becoming an issue as family patriarchs and matriarchs begin to age.
The report finds that allocations to private equity investments are rising, representing close to a quarter of the average client portfolio, while hedge fund allocations are dipping largely due to poor performance – with the average allocation falling from 9% to 8.1% in 2015.
Higson tells PBI that the increase in private equity investment is largely due to an increased interest in funds, while allocations to direct private equity investment have been fairly similar to previous years. The allocation to illiquid strategies can explain some of the dip in performance by family offices.
Higson says: “In the search for yield, family offices are playing to their strengths by allocating longer term and accepting more illiquidity. This approach is successful when experienced in-house teams have sufficient bandwidth to conduct due diligence and manage existing private market investments.”
However, Higson notes that the appetite for riskier strategies, such as venture capital, is not significant outside the US. Real estate accounted for some of the stronger performances among family office allocations in 2015.
Direct real estate investments returned 15.3% in Europe and 2.1% in the US. REITs returned 15.3% in Europe and 0.8% in the US. According to the report, real estate direct investment accounted for 15% of the average family office portfolio in 2015.
Higson says there has been a particular interest among family offices in commercial real estate opportunities that are “well ringfenced”, such as university halls of residence, which often achieve yields of 10%.
The comprehensive service that family offices offer clients incurs an array of costs. According to the report, 45% of costs were attributed to investments, and the rest were legal, accounting and administration costs.
Higson suggests the costs involved with legal and tax services are difficult to reduce. He feels that investment is one of the only areas in which costs can be mitigated, and says family offices can manage costs depending on how they source or outsource activities.
A larger burden in terms of investment cost is if family offices engage in direct investments. Higson says this is where fees can often exceed the 1% threshold, due to added legal and administration costs.