Why is fund of funds a thing

Re: Citi private bank cutting ties with SkyBridge

Why is PE FoF a thing? Let's say you're looking to invest $500 million. If the FoF charges 1% then you're paying $5m to have someone go out there and look for funds to invest in. Is it worth the price tag? Wouldn't you just go and look for PE/HF that are performing well yourself?

 

Speaking as a FoF investment professional, its true that FoF's double fee structure is a disadvantage and seems unfavorable to investors. But FoF still has value for alternative investors:

  1. large institutional investors like sovereign wealth fund and state pension has diversification requirements and they don't have enough in-house ability to do that, so FoF helps them achieve that.
  2. small investors don't have enough money for large GP like Blackstone or KKR, investing in FoF help you get into those large players.
  3. some GPs are niche and hard to get in or their allocation are scarce (because they tend to have a smaller fund to get higher return).
  4. There are some special LPs like corporations want to look for strategic acquisition opportunities so they invest in FoF as a deal sourcing channel.

According to Pitchbook data, FoF fundraising keep declining since 2014, which indicates an award situation.

 
vanative:
what are thoughts on secondaries? feel like it’s a similar market

Secondaries has quite a bit different power dynamic as the GPs fund is already raised and there is quite a bit of value add secondary investors offer for LPs that aren't CPPB sized.
1. Some GPs have very restrictive transfer approval requirements for LPs often requiring Lps be subscribed to their funds. A secondary investor often has primary investments already in GP funds so has an advantage there. 2. There still is quite a bit of "hunting" for deals beyond the marketed processes. 3. For some of the mega secondary deals there can be quite a bit of diligence required (think 30 fund stakes with 10-15 companies each) and for fast moving deals a secondary investor may have the best view for valuation due to being already an LP for the funds in question. 4. Check sizes in the secondaries space can be much bigger limiting the universe of GPs.
5. Secondaries now consists of more than just buying and selling LP stakes with quite a bit of (I) GP led and secondary sponsor led continuation vehicles in addition to (ii) equity recap coinvestment opportunities for larger LPs for good asseta that alot of the larger secondary funds are actively pursuing.

 

Its pretty much a legacy business from back in the day when PE/HF were putting up heavy duty returns, but the people running big allocators didn't know what they were. They had pressure to allocate to the industry bc of the returns, but were uncomfortable as many of these funds can seem pretty whacky to someone who is used to running a 60/40 equity bond mix.

Enter some clever Anthony Scaramucci's with nice credentials who says "hey, I understand the asset class. Why don't you let me handle all the complicated stuff for you, and you get to tell your board you're doing cutting edge stuff".

 

Lots of reasons.
1) size. LP is either too larger (big pension fund, SWF) or too small (family office) and so they need a FOF's help to get diversification and access. A large LP cannot generally deploy so much money themselves as it takes time to DD managers and monitor portfolios. Finding some good FoFs can really help. And if you're a family office you generally are not running a large enough team to do all the selection work so you hire FOF to do that for you.

2) diversification / access to new products / expertise: in Asia, where I live, several FOF had emerged because global LPs wanted access to Asia/China. It takes local expertise, langauge cpability, presence, etc to figure out who the good GP funds are and to manage the investments in them. I've seen the same for European VC for instance, or private credit. If you're an LP it's often better to hire the local specialist rather than do it yourself.

3) Access: some GPs are oversubscribed, and the only way in is through a FOF that's been investing with them for some time. This is less true now than in the past, since there's been a fair bit of disintermediation of FOFs. But for some highly-sought-after VCs for instance you need to still go through a legacy FOF (ie. Top Tier).

Broadly speaking though, FOF are less prevalent in the market than before. Many have shut down as intermeidation has happened, or some like Partners Group have transformed themselves into GPs with a small FOF arm, that is kept for strategic purposes - such as investing in GPs in order to get co-investment access.

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