The big rise in private equity assets in the portfolios of family offices in recent years is leading many of these investors to look at better ways to manage the risk of both their public, but also private parts of their portfolios and more importantly in aggregate, says a leading expert in portfolio risk management and reporting for family offices.
“From a risk reporting perspective, a lot of work we do now is looking at the private equity investments of family offices not as a line item, but as a portfolio of underlying exposures” says Neil Puri, CEO of SRL Global. “What we do is we assign a public market risk-equivalent to the underlying portfolio companies of private assets, whether directly held or through a limited partner (LP).” London-based SRL Global helps some of the world’s biggest family offices to manage their risk and reporting.
Puri explains this further with the example of a family office that has invested in a private equity fund as a limited partner. “Family offices traditionally look at the LP as a line item, rather than a collection of underlying investments. Looking beyond valuation, if you analyze the underlying portfolio (the portfolio companies) you can effectively tag those companies to what is a public market risk-equivalent.”
This enables family offices to use this data for risk management purposes, adds Puri. “So you can look at the risk of your private investments, you can look at the risk of your public investments - and critically, you can look at the portfolio’s risk as a whole. Until recently public and private investments have been managed very separately.”
And how family offices are managing this, given the ability to measure the risk of their illiquid assets, is also very interesting, says Puri. “They’re using the liquid part of the portfolio as well as risk premia to hedge exposures as well as to tactically overlay the portfolio with cyclical themes like momentum, value, and growth. This enables family offices to place tactical allocation and thematics on the overall portfolio knowing that the private equity part can’t be sold.”
The backdrop of the desire to better manage the risk of the illiquid part of portfolios for family offices has been the tremendous accumulation of private assets in the last three years. This has been driven, says Puri, by two factors. One is a sense that public markets were increasingly overvalued, and the other is a growing affinity among family offices to have non-mark-to-market assets in order to take a long-term view.
But, as these private assets have grown, so has the concern that these assets might be at the top of the cycle. “Family offices were asking themselves ‘how could they manage the risk of their illiquid assets better’,” says Puri. “Previously, in terms of portfolio management like tactical allocation, risk management, and hedging, the only thing they could do something with was with their liquid part of their portfolio. But by assigning public values to private assets they can do this across their entire portfolio.”
Puri says the demand for services designed to manage the risk of the illiquid part of family office’s portfolios is particularly been taken up by Swiss and US private investment offices. But he reckons more and more private investment offices will look at this approach and employ similar methods.
“Recently, I was at a conference and 86% of the family offices there said they do their own deals these days,” says Puri. “Whether they are doing it directly, co-investing, or club deals, the direct approach has ballooned. It was inevitable that the need to manage risk around these assets would emerge.”