Asset classes for family offices
The primary objective of family offices is wealth preservation and growth to ensure long-term recurring revenue for generations to come. Traditionally these goals have dictated a family office’s investment strategies, favouring relatively safe asset classes with reduced risk and lower yet steady payouts. As a result, real estate, blue-chip stocks and bonds have made up the bulk of most family office investment portfolios.
Traditional, alternative and new asset classes
Traditional asset classes include –among others– real estate, bonds, stocks and cash/ money market investments. These asset classes are known for being a relatively safe investment – they tend to be low risk, with low but steady returns. They can often be converted into cash quickly as they are publicly traded.
Alternative asset classes include illiquid strategies comprising real assets, private equity, private credit, liquid strategies comprising hedge funds, venture capital and other liquid alternatives. Alternative assets cannot be converted into cash on short notice as they are not publicly traded.
In addition to these, family offices have recently broadened their focus to include other investments in their asset allocation. This is driven by the low-interest environment, improved capabilities on the investment management front and the need to hedge against bonds and equities. As a result, many are actively hunting new opportunities in emerging asset classes, some of which are based on traditional asset classes, while others are entirely new.
Here’s a look at some of the most common asset classes that family offices invest in, including some of the most interesting emerging asset classes in the alternative investment space.
Recurring revenue as an asset class is based on traditional fixed income but with higher liquidity and diversification. It allows investors to invest in fixed income-like products for recurring revenue streams.
Many subscription-based SaaS and e-commerce companies realise that equity and debt are not optimal ways to finance growth. As a result, opting to trade their monthly recurring revenue to secure upfront revenue without dilution and debt burden is becoming increasingly attractive.
These deals are brokered via platforms like Pipe that offer capital markets direct access to early-stage businesses, bootstrapped companies and publicly traded entities.
The COVID-19 pandemic has forever changed the way the world works. Post-Covid, companies are navigating what the return to the office looks like in, while assessing their existing spaces. Due to work-from-home orders, there has been a massive shift towards hybrid workplaces with greater flexibility becoming the norm. A joint study by Coworking Resources and Coworker correctly predicted that the flexible office space industry would “rebound in 2021 and develop even more rapidly from 2021 onwards, with a yearly growth rate of 21.3%.”
Co-working spaces are thus fast becoming an emerging asset class. They are regarded as a separate asset class due to their unique risk profile with the primary variable based on the tenant’s ability to pay rent.
Cryptocurrency, Digital Assets & Blockchain
Despite its recent turbulence, the digital asset universe has an estimated market value of over $1 trillion. This means digital assets are a prominent emerging asset class for family offices seeking alternative options. In addition, the fact that cryptocurrencies and digital assets do not correlate to any other asset classes makes them an attractive choice when diversifying family office portfolios. While Bitcoin is the most renowned cryptocurrency with a significant market value of around $900 billion, the ecosystem has expanded to include all digital assets.
Blockchain is an enabler of many of these new asset classes. Not only is cryptocurrency trading built on it, but the technology has also been adopted across multiple verticals as a value-add to businesses. Venture capitalists, in particular, have shown interest in digital assets and blockchain investments, spending an estimated $17 billion in the first half of 2021.
As the war on climate change intensifies, carbon trading continues to emerge as a new asset class. The carbon market grew by over 20% in 2020, its fourth year of consecutive growth, and is showing no signs of slowing down.
When talking about carbon trading, two primary markets exist. Compliance carbon markets (CCMs), where mandatory national, regional, or international regimes trade and regulate carbon allowances and Voluntary carbon markets (VCMs), where companies and individuals trade carbon credits voluntarily. CCMs are the more mature of the two, with VCMs only just emerging. CCMs are valued at over $100 billion with an annual trading turnover above $250 billion. VCMs were valued at $300 million in 2020.
According to the CFA Institute, “Emissions Trading Systems (ETSs) are a climate policy instrument designed to provide effective carbon pricing. Carbon traded in these markets can be viewed as an attractive asset class with well-understood risk premium drivers.”
Institutional investors previously played a limited role in these markets, but this is changing. Trading carbon credits helps organisations to reach their net-zero carbon targets, supports the global climate agreement and contributes to protecting the environment. For family offices with mandates focused on diversification into sustainable investments, this is an interesting opportunity to get into an immature but growing market. However, as with many sustainable investments, greenwashing is common, so securing advisors with experience in the field is highly recommended.
With new wealth coming online, there is a rise in alternate asset classes getting a lot of attention from family offices.
From fine art and vintage wines, sports memorabilia and Pokemon cards to Non-fungible tokens (NFTs) and Funko (FNKO) figurines are all becoming part of a new emerging asset class known as collectables. It is estimated that the collectables industry was worth $412 billion in 2020 and that it is expected to reach $628 billion by 2031.
Within a digital asset context, Digital NFT Market Collectibles is the fastest-growing segment with a CAGR of 14.2% during the forecast period. Certain products within this segment experience up to 1,400% growth in a quarter (i.e., around 14 times the market). Given these facts, it is little wonder that venture capitalists and market giants are entering the market and family offices may follow suit.
As most family offices look for ways to diversify their portfolios across alternative and traditional investments, ensuring both security and high returns, venture capital remains a popular asset class. Venture capital sees family offices investing in companies close to listing or perhaps on the brink of buy-out and tends to offer the advantage that its performance is completely uncorrelated with public equity markets. Family offices that want to invest in startups effectively have three options; they can invest directly, through a venture capital partner, or they can opt for a combination of the two, often known as a hybrid approach.
There has been much research about impact investment, which aims to create positive social or environmental impact beyond financial return, as a new asset class. Typically made in private markets by providing debt or equity to mission-driven businesses, impact investing has caught the eye of a wide range of investors, including large-scale financial institutions, pension funds, family offices, private wealth managers, foundations, individuals, commercial banks, and development finance institutions. The impact market was estimated to be worth over $715 billion at the end of 2019, according to the GIIN, and continues to show incredible growth.
Spurned on by carbon trading, natural climate solutions (NCS) are ways to reduce carbon emissions through conservation, restoration, and improved management of forests, grasslands, and wetlands across the globe. Given their potential to diminish greenhouse gas emissions, their comparatively low marginal costs, and their ability to deliver other benefits, these solutions are expected to be a key component of any pathway that contributes to slowing global warming. NCS also represent a new asset class. Despite uncertainty about returns given due to the volatility of carbon prices, the sector is promising, with an estimated $630 billion invested as climate capital annually. More institutional investors moving into this space will undoubtedly help mature this asset class and make it more mainstream.
As existing market trends continue, the search for yield drives family offices to explore more speculative asset classes than ever before. This is equally daunting and exciting, but opportunities are quite clearly there for the taking. When it comes to deciding on family office investments, there is an endless option of interesting asset classes to choose from.