More than three-quarters of North American families who invest through a family office grew their wealth in 2022, according to a new report by London-based Campden Wealth and Royal Bank of Canada. The report found that North American family offices achieved a 15 percent average portfolio return at a time when the stock market had an annual return of –18 percent and the Total Bond Index lost 13 percent.
So, how did family offices perform so much better than either of the two pillars of an investment portfolio? Short answer: They put more than the usual amount of capital into private equity alternatives, including real assets. And, according to the report, they expect to add to that amount in 2023.
INVESTING FOR THE NEXT GENERATION
Family offices, which provide financial, estate, tax and investment services to high-net-worth individuals and their families, have boomed in number worldwide over the past two decades. According to CNBC wealth editor Robert Frank, they now number more than 10,000 worldwide, 10 times the number in existence 20 years ago. These lightly regulated private-wealth management firms are not looking to cover liabilities the way institutional players might be. Instead, their goal is to preserve and grow wealth. As such, they are not as interested in quarterly reports as they are in long-term (as in decades’ long) returns to underpin generational wealth. To achieve these results, the largest offices are sacrificing liquidity and increasing investments in alternatives, including using active strategies to access private equity, real estate and private debt.
An example of this focus on long-term results is Bill Gates’ investments in agriculture. Through his investment company, Cascade, Gates has been buying up farmland since 2013. Today, he owns approximately 270,000 acres, making him the largest landowner in the United States. Despite Gates’ known interest in sustainable initiatives, his motive for buying farmland is purely economic. Agriculture is considered a stable, consistent, long-term investment. According to the USDA, the average annual return for farmland over the past 20 years is 12.24 percent, and the trend is likely to continue as the amount of water-accessible land in the United States and world continues to shrink from climate-related pressures. As Mark Twain is credited with saying: “Buy land. They aren’t making it anymore.”
INVESTING IN WHAT YOU KNOW
Most family offices are no strangers when it comes to real assets. Real estate has long been viewed as a way to guarantee generational wealth. What’s more, many families now investing through a family office originally grew their wealth via real estate and other real assets, so they are comfortable with its characteristics — possibly more comfortable with illiquid but stable real estate than they are with volatile equities.
“Families who got their start in real assets tend to continue to invest and hold onto real assets because it’s in their family DNA, it’s what they know, and it’s where they feel most capable,” says Efi Avigdor, founder of wealth consultancy Wealth Dialogue.
High-net-worth families often prefer to control their investments rather than invest passively. Afterall, they likely didn’t achieve their wealth via passivity. Real assets are unique in that they provide multiple routes for direct investment, whether it is direct ownership, a joint venture or small boutique fund. According to the Dentons Family Office Direct Investing Survey, the average family office allocates 37 percent of its private equity assets to direct investments. While family offices like the control that direct investing gives them, they also take advantage of public or private commingled funds to complement these direct investments by spreading risk.
Real assets provide the long-term returns and diversification that family offices seek, but they aren’t an easy investment to manage. Particularly as control begins to move to the next generation, some firms are finding that they are over invested in illiquid assets.
“Real assets take real asset expertise, which may be more closely tied to elder family members and longstanding but soon retiring core family-office personnel,” says Avigdor. “Sometimes just moving from a controlling stake to a minority stake can free the family from the responsibility of managing those assets, which can allow the family office to fully flourish away from the weight of the closely held legacy asset.”
On the other hand, for families that derived wealth from industrial or technological pursuits, real estate can be a good way to diversify and buffer against the volatility they might have in other parts of their portfolio, especially if they made their money in the tech sector and continue to invest in that area.
“It’s an asset class with a longer-term hold mindset, which lends itself to family offices,” continues Avigdor. “They tend to move more slowly and don’t have to appease investors with quick determinable exits the same way that other holders would. They can afford to ride out market fluctuations and hold longer.”
A prime example of an industrial-backed family office’s embrace of real estate is the global investment firm Harrison Street, which was launched in 2005 in partnership with the Galvin family office. Paul Galvin founded Motorola in 1928 in a small building on Harrison Street in Chicago — hence the investment firm’s name. Harrison Street started off investing for the Galvins, but as its skillset grew, it brought in other investors until today, it has more than $53 billion in real estate under management. Although the Galvins sold their 75 percent interest in the firm a few years ago to Colliers, Harrison Street has retained its family office roots as it invests in alternatives such as student and senior housing, healthcare delivery and life sciences.
The purpose of family offices is to protect and grow wealth for the generations to come. Real assets are uniquely situated from both a performance and a tax standpoint to meet these goals.
“These assets, because of their illiquid nature and minority stake, tend to be ripe for valuation discounts, which is ideal for inter-generational transferring,” says Avigdor. “But also, preserving the step-up at death on low-basis real estate assets held directly by a senior generation means that families are just sitting on these assets because it is difficult to justify the tax inefficiency of selling or transferring the asset.”
In recent years, family offices have begun to add private debt to their private equity investments. A survey from Aeon Investments, the London-based credit-focused investment company, found that greater transparency in the private debt investment market paired with attractive yields are the main reasons for this increased interest. In addition, family offices appreciate the number of choices they now have, as well as the ability to invest through private structures. The study found 80 percent expect family offices to increase allocations to private debt over the next two years with nearly one in 10 predicting dramatic increases. The most attractive asset classes are forecast to be residential and commercial real estate, and specialist areas of corporate finance such as commercial aviation, shipping and trade receivables.
“Family offices need to deliver stable and predictable yields and that is driving increased interest in private debt with residential real estate and specialist areas of corporate finance proving to be the most popular asset classes to offer yield and capital preservation,” say Khalid Khan, managing director at Aeon Investments. “Financial institutions, however, need to recognize that family offices are discerning when it comes to fee structures.”
FAMILY OFFICES AND ESG
Family offices are moving toward not only continuing to create tangible legacies via real asset investments, but value legacies as well. These families, particularly the upcoming generation, view their wealth as something that should be used for a broader good.
“Rising generations are more likely to favor ESG strategies than their older counterparts, but overall it is an area that is seeing tremendous interest across the board,” says Avigdor. “Younger voices are also more apt to understand some of the tech opportunities, they can be less risk averse, and they are often much more in tune with the issues and implications of how the wealth was earned and how it can or should be used going forward.”
One example of how the younger generation is using real estate to continue to build wealth while making a positive impact is Lincoln Avenue Capital, a real estate investment firm founded by Jeremy and Eli Bronfman when they were still in their 20s. Heirs to the Seagram fortune, the Bronfmans are using their wealth to develop and invest in affordable housing. Founded in 2016, the firm currently has more than 100 properties across 18 states housing more than 50,000 residents. Lincoln Avenue describes its goals as “providing high-quality, sustainable and affordable homes for low-income individuals, seniors and families across the country. We’re focused on creating impact for generations to come.”
Another example of the next generation refocusing the family office investment strategy is Builders Vision, the investing and philanthropy platform of billionaire Lukas Walton — grandson of Walmart founder Sam Walton. Builders is a prime example of family office impact investing. With Walton’s direction, the company has shifted 90 percent of its $1 billion endowment into investments aligned with its goals of sustainability and equity. This level far surpasses the typical 20 percent or less of capital invested in ESG or impact investments by most foundations, setting a new benchmark for family offices and foundations.
“Our mission should show up in everything we do, especially in how we commit our resources,” Walton told CNBC’s Robert Frank. “That’s why we’re investing our endowment in companies, organizations and strategies that prioritize sustainable and equitable solutions.”
Frank notes that Walton represents the fast-paced generational shift among family offices, as inheritors and entrepreneurs in their 30s and 40s aim to use their wealth to drive social change. The new generation wants their investments to align with their philanthropy, merging “profits with purpose.”
“Profit and purpose are not at odds, they are complementary,” says Matt Knott, president and COO of Builders Vision. “Purpose-driven businesses will have a competitive advantage going forward, as people prefer brands and companies they feel good about.”
The rise of impact investing among family offices is gaining momentum, with a Credit Suisse survey finding that nearly half of family offices surveyed plan to increase their sustainable investing in the next two to three years. As more family wealth is passed down to younger generations and more tech wealth is created by young founders, family offices are investing billions in startups stocks, and private equity aimed at promoting social change.
USING THEIR POWER FOR GOOD
Family offices now have more than $6 trillion of assets under management. Their growth is being driven by an expanding wealth class worldwide, as well as by better investment strategies and the ability to invest in nontraditional asset classes. These firms tend to be very private about their activities, but they are now actively competing with property managers and hedge funds for assets. They are also becoming more public in their efforts to use their wealth not just to support the next generation, but to do good in the world. Family offices by themselves can’t solve all the world’s problems, but $6 trillion can certainly make a dent.
Sheila Hopkins is a freelance writer in Auburn, Ala.