Family Offices Embrace Illiquidity Risk for Long-Term Gains
Family offices, the private wealth management advisory firms that serve ultra-high-net-worth individuals and families, are navigating an increasingly complex financial landscape. With the aftermath of the pandemic, a recession that never materialized, ongoing geopolitical challenges, and rapid advancements in artificial intelligence, these entities are adapting their strategies to thrive in a volatile environment. Recent insights from a survey of 190 family offices, with an average net worth of $1.4 billion, reveal a significant shift in investment strategies, governance, and succession planning.
A Shift Towards Alternative Investments
One of the most striking trends among family offices is their growing willingness to take on illiquidity risk in pursuit of greater long-term returns. Nearly 80% of family offices are now collaborating with external investment advisors, marking a multi-year shift towards diversification. The average portfolio allocation to alternative assets has reached 45%, with a targeted return of 11%. Private equity stands out as the most commonly held asset class, with 86% of family offices investing in it, while infrastructure investments are less prevalent, with only 9% participation.
In addition to alternative investments, family offices are also focusing on developing core, liquid portfolios. On average, these portfolios allocate 26% to public equity and 20% to fixed income and cash, reflecting a balanced approach to risk and liquidity.
Cybersecurity: A Growing Concern
As family offices increasingly embrace digital solutions, the threat of cyberattacks looms large. Nearly a quarter of the surveyed family offices reported experiencing a cybersecurity breach or financial fraud, yet only 20% have implemented robust cybersecurity measures. This alarming gap highlights the urgent need for family offices to prioritize cybersecurity, with 40% of respondents identifying it as a critical area for improvement. As the digital landscape evolves, safeguarding sensitive information and assets must become a top priority for family offices.
Rising Operational Costs
Managing operational costs while attracting and retaining top talent is another challenge facing family offices. The average annual operating cost for large family offices, those with over $1 billion in assets, is approximately $6.1 million. This reality necessitates strategic outsourcing and a hybrid approach to staffing. Nearly 40% of small and midsize family offices, with assets ranging from $50 million to $999 million, have turned to outsourcing investment management to optimize costs and enhance efficiency.
Preparing the Next Generation
Succession planning remains a primary concern for family offices, particularly regarding the preparedness of the next generation to inherit wealth. Surprisingly, nearly 30% of respondents lack a structured approach to prepare younger family members for this responsibility. Despite recognizing the importance of succession planning, many family offices struggle to implement effective strategies. Interestingly, over 20% of respondents choose to shield the younger generation from the full extent of the family’s wealth, a practice more common among smaller family offices. However, in today’s interconnected world, this approach may not be sustainable or beneficial.
The Evolving Role of Family Offices
While managing financial assets is the primary objective of family offices, many are increasingly adopting a long-term perspective. Nearly 70% of global respondents prioritize succession planning and preparing the next generation as key goals. Additionally, over 40% aim to continue the entrepreneurial legacy of their families. Family offices are also becoming instrumental in supporting philanthropic and legacy goals, with the definition of ‘legacy’ varying among families.
Our research indicates notable regional differences in the focus of family offices. U.S.-based family offices are particularly inclined towards philanthropy and impact investing, with one-fifth reporting an in-house philanthropy director, compared to just 2% of international family offices. This presents an opportunity for family offices to integrate their philanthropic and investment strategies, reflecting a holistic approach to wealth planning.
Conclusion
The landscape for family offices is evolving rapidly, driven by a combination of market dynamics, technological advancements, and shifting generational priorities. As family offices increasingly embrace illiquidity risk and alternative investments, they must also address pressing challenges such as cybersecurity, operational costs, and succession planning. By adopting a comprehensive approach that aligns investment strategies with philanthropic goals, family offices can navigate the complexities of the modern financial landscape while securing their legacies for future generations.
Natacha Minniti serves as the international head of 23 Wall at J.P. Morgan Private Bank, where she leads efforts to support family offices in their evolving roles. For more insights and op-eds, visit here.