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Understand why and when investors may consider fund-of-funds structures to access private assets
Key Takeaways
- John O'Connor of Point Olema Capital discusses the pros and cons of fund of fund structures
- The key drawback is fees - investors pay both individual fund fees and a management fee to the fund of funds.
- Fund of funds offer access to several different fund managers, and can be a good option for investors if they offer access to top managers.
- However, fund of funds offer great diversification benefits - which is particularly hard for many investors to achieve in private markets given high investment minimums directly into funds.
Transcript
Hi, I'm John O'Connor, co-founder of Point Olema Capital Partners in San Francisco, California, which I co-founded with Eric Upin, my former chief investment officer from the Stanford University endowment. We effectively manage the alternative asset class portfolios for our family clients.
One of the drawbacks, obviously, of a fund of funds versus an individual fund is the extra layer of fees that you have to pay on top of an individual fund. But the benefit of the fund of funds, if it's managed in the right hands with the right access to top quartile or top decile managers, is if you put a basket together of six to eight top funds, then you get even more diversification by sector, by geography, by strategies. And there is a natural tension between diversification and the outperformance that can come through concentration. If you take a statistics class, they usually say that you need at least 30 data points for something to be statistically significant. I don't know if that's the number of managers that you need or companies that you need. And I think that's where the art meets the science a little bit is how do you strike the right balance between requisite diversification and not being over diversified? And then taking it even a step further of just not being over diversified is how do you concentrate with the very best ideas, because that's how you can generate the outperformance relative to the indices. In a private equity buyout portfolio or in a venture capital portfolio. What is that number? Is it to manage two funds? Is it twenty funds? Well, the opinion of myself and my co-founder Eric -Upin and our team, we think it's somewhere in the range of five to 10 funds, 5 to 12 funds per asset class, depending a little bit on the asset class and the nature of the asset class characteristics, in private equity buyout and venture capital. We're in that eight to 12 fund manager range.
So you can fit the pieces together of different funds so that the sum is bigger than the parts if you're not paying extraordinary fees on top. So you have to be mindful of the fees. And if you have access to the top decile/quartile funds, those are big ifs, then it can be a benefit to be in a fund of funds versus just one fund.
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