Family-office portfolios often involve inputs from more than one generation. While the family business itself may be making a suitable return, there is a need to diversify beyond it to balance out risks. As the investible surplus increases and generations get added, avenues other than the traditional options of real estate, gold, bank products and a splash of equity begin to be considered for diversification.
The next generation entering the realm of the family business has meant, among other things, wider exposure to different financial securities for investing business surpluses. Choices today have widened to include structured debt securities, venture capital, private equity (PE) funds and passion investments, across different sectors.
While it may be assumed that newer investment ideas entail higher risk, these are far from being careless well-thought-out options where only a small proportion of the overall surplus gets invested.
Why is there a need to consider newer avenues? It’s a simple matter of expanding horizons and awareness.
The new generation in many families has either studied abroad and returned with exposure of different financial investments or have friends and peers who are exposed to such investments.
Sraboni Haralalka, co-founder and executive director, Wodehouse Capital Advisors, says, “The younger generation is very savvy when it comes to newer financial investments. Moreover, everyone is constantly talking to each other. This exposure and knowledge leads to incremental money getting into newer ideas.”
Investments from domestic investors into Alternative Investment Funds (AIF), which include PE funds, has increased too. At the end of June, the cumulative net funds raised across all three categories of AIF was slightly above Rs48,000 crore; a fourfold increase since June 2015.
Nishant Agarwal, head, products, investment advisory and family office, ASK Wealth Advisors Pvt. Ltd, says, “Three-four years ago, raising money for an IT start-up fund from domestic investors was not easy and you didn’t see many such ideas. Now, as domestic investors have become more open to such investments, there are several funds getting launched.”
Investments could be in alternative strategies, unlisted equity, or even buying stake in a new business venture. The investment return sought is at a premium compared to, say, investing in a plain-vanilla diversified equity mutual fund, but it is not reckless. Investments are well thought-out.
Agarwal says, “Permissions are sought from family elders before undertaking such investments. Only if it is agreed by the elders can the younger generation go ahead. There is some amount of club investing along with friends and based on information from peers, but these are not trophy assets. The investment is well thought-through.”
Then there are passion investments: restaurants, lounges, sports teams.
Munish Randev, chief investment officer, Waterfield Advisors Pvt. Ltd says, “It’s not uncommon to find two-three families coming together for a passion investment. New-age investments like food and sports usually originate from the new generation. The older generation usually does not take passion as a serious business option.”
While there is risk in such investments, which are crossing over from the territory of financial investments to businesses, advisers are unanimous that there is rarely any recklessness involved.
What could go wrong?
A lot, given the risk. If the experience with the first wave of real estate PE funds in 2007-08 is anything to go by, the risk of investing in a new proposition should not be taken lightly. Many real estate PE funds were launched in seven- to 10-year closed-end fund structures, and most have barely returned capital.
Randev says, “Some family offices have been in existence for a while but were largely unstructured and did invest in early-stage, PE and real estate funds. After having gone through an entire cycle of not-so-impressive returns from some of these products, they now understand that every glamorous product does not come with the best return. We have to look beyond the hype.”
An alternative investment, then, can become attractive only if it can generate a return superior or at least similar to the family business. If not, then it should be a return comparable to what is offered by traditional growth and physical assets. To enable a higher or premium return, the risk taken too has to be higher.
Newer avenues of investment also include venture funds and start-ups. In some cases, funding goes into businesses in uncharted territory. There may be no prior benchmark for returns or, for that matter, the kind of operational risk involved.
Randev says, “Now there is a realization that a logical investment rationale has to be there. Some understanding of where the money will get utilized, how investment decisions will get made and so on. If you are getting higher return, are you okay with the enhanced risk? One also has to consider other details like management fee and transparency of the structure or product.”
The need for additional vigilance while investing in high-risk products or ventures becomes important too owing to lower regulatory demands on such products. In addition, you may not have a return standard to compare with. Investments tend to be based on trust and past credibility of the fund manager/business, or the perception of their ability to manage. Thanks to these uncertainties, and, to some extent, the unfamiliar territory, newer investment ideas get a small portion of the overall investment allocation.
With every generation, there is bound to be a change in investing and the independent guidance from family-office advisers can help balance the risk-return platform brought forth by new investment ideas. Interest in them is picking up, though these ideas can never replace traditional physical investments, high-yield debt or equity investments.
So far, though, the entire process remains a joint effort even if the generational choices differ.