Financial advisors are finding that the affluent are increasingly interested in non-traditional investments. The wealthy have always been engaged in angel investing and private-equity funds, but there has been an upsurge in interest in recent years, and there is every indication that this trend is going to intensify.

The Ultra-Wealthy Are Attracted To Direct Investments
Direct investing has a very strong appeal for the ultra-wealthy. Single-family offices, for instance, are particularly interested in “club deals.” These are direct investments (derived from the idea that deals were made among members at a country club) where the ultra-wealthy invest in business ventures found by other wealthy families and individuals. In effect, the affluent are teaming up, forming a “club” to make investments in privately held companies, including start-ups. These deals are appealing for a variety of reasons:

• They offer the potential for high returns.
• They rely on personal and family industry expertise.
• They allow investors to capitalize on personal and family relationships.
• They allow investors to be hands-on with the companies they invest in.
• They allow investors to design the deals to mitigate taxes.

But even though club deals are gaining momentum, most direct investments by the ultra-wealthy come through financial and legal professionals, who can both identify solid investment opportunities and conduct extensive due diligence.

Inheritors especially are interested in these types of deals. In a recent study of 114 ultra-wealthy inheritors (those who expect to inherit $100 million or more) we found that 22% are already doing deals and 65% plan to become more involved in buying and selling substantial assets.

Ultra-Wealthy Inheritors And Direct Investing
Those currently investing in direct deals.............. 22%
Those who plan to become more involved........... 65%
N = 114 ultra-wealthy inheritors (net worth = $100 million or more)

Working with clients on direct investments in private companies takes technical skills and knowledge that are not the norm for most financial advisors or even for registered investment advisors. An understanding of deal structure and the multitude of legal issues involved is required. Financial advisors wanting to bring direct investments to their affluent clients will either need to become adept at structuring such deals, or more likely, they must team up with experts.

Investment banks can provide access to direct deals and support in executing them. But financial advisors who choose to go this route must be able to manage all the diverse roles and responsibilities, as well as develop appropriate payment models that ensure all the parties are aligned. It is also essential that advisors deliver the right degree and kind of information to their affluent clients, especially those who are exploring private investments for the first time and may have a different set of expectations.

For Most, The Answer Is Funds
While there are some segments of the affluent—usually the wealthier ones—who prefer direct investments, the research indicates that most high-net-worth investors would be better served by putting their monies into private-equity funds. This structure is favored for the great majority of affluent investors because they can more easily integrate funds into their asset allocations, benefit from the diversification that funds provide and enjoy greater industry oversight.

Funds also better suit financial advisors, especially those who lack experience with the asset class. With funds, the technical specialization advisors might require for finding and executing high-caliber direct deals is no longer an issue. Funds are investment vehicles advisors understand, and they offer the benefits of greater risk management and diversification lacking in direct deals.

While the ultra-wealthy have had relatively easy access to private-equity funds, this cannot be said about many of the less affluent. Many with $50 million or less do not have money in the asset class. This is going to change.

Advisors who want to work with these investors will likely have to critically examine their deliverables and expand them to accommodate qualified purchasers of alternative investments. Meanwhile, asset management companies and technology providers are going to create the products and platforms for advisors offering funds to wealthier clients. The nature of these services will be refined and enhanced.

As less affluent clients also move into private equity and catch up with the ultra-wealthy, benefiting from the new access and guidance, advisors are going to be essential to the process. There will likely be an increase in direct investments, but all indications are that funds will be the dominant mechanism for these newcomers. 

Russ Alan Prince is president of R.A. Prince & Associates Inc. and executive director of Private Wealth magazine.

Brett Van Bortel is director of consulting services for Invesco Consulting, the sales consulting group within Invesco Distributions Inc. The opinions expressed are those of Russ Alan Prince and Brett Van Bortel, and are based on current market conditions and subject to change without notice. These opinions may differ from those of other Invesco investment professionals.