Family offices struggle in new environment

Family offices around the world are struggling to cope with the growing demands for advice and expertise arising from increased regulation, a more litigious society and the risks of an unstable global economy.

Wealthy families will have to accept that the world is changing and that they will probably pay more tax than in the past. Curbing tax avoidance and evasion by individuals and companies has risen on the international policy agenda, as governments try to rake in as much revenue as they can, given tough fiscal positions. Families will have to incur greater costs in managing their affairs, if they wish to avoid unnecessary risks, argues Andrew Nolan, managing director and head of family office for Stonehage Group, an international multi-family office (MFO).

In order to contain these costs, the objectives and the role of the single family office must be much more defined than in the past, clearly specifying the division of responsibilities between the family, the family office and external professionals such as investment managers and lawyers, explains Mr Nolan.

This means family offices need to focus on the areas where they have a strong skillset and outsource all the other services to third parties.

Given the increased number and complexity of regulations, which families might not be aware of, acting as the risk platform for their large clients is crucial for a multi-family office, or for other third-party service providers.

Wealthy families are used to acting rapidly and are more nimble than large corporates, as decisions are generally taken by a small group of people. Today, in many instances they will have to be slowed down in their desire to pursue investment or business opportunities, and this can be frustrating for them, but it is very important from a risk perspective, states Mr Nolan.

“As a multi-family office, acting as the operational risk platform for these large clients, our role is to help them and ensure they don’t breach those regulations,” he explains.

The decision to outsource is clearly affected by the size of the family office. To set up a fully-fledged family office, a family should have a minimum total net worth of $1bn (€740m), according to Pictet. Smaller family offices generally decide to recruit a couple of external professionals or family members, and give them the mandate to outsource, observes Jean-Claude Erné, CEO of Pictet Family Office Services.

“In the past two to three years, there has been a growing trend to outsource, for instance the CIO function, which is a new trend in the industry,” he says. According to Forbes, a third of family offices use an external CIO, he reports, and he expects this proportion to grow in the next few years.

Some very wealthy international families may even choose to outsource this function to more than one firm, and for example outsource their US investments to a CIO and non-US investments to another.

Recruiting and retaining a top chief investment officer might prove very difficult for a single family office, whereas outsourcing this function enables the family to access “the best talent within an institution and leverage on the firm’s capabilities,” says Mr Erné.

In Pictet’s Family Offices Services unit, which manages around $57bn of assets across 120 families worldwide having a minimum of $100m in assets, global fiduciary managers acting as outsourced CIOs serve a maximum of three to five families or family offices and they follow the same macro views as the CIO of Pictet Wealth Management.

Transferring all their assets to one global custodian enables the outsourced CIO to perform in a much more efficient way his function. And this why the two outsourced services are often linked to each other, he says.

The bank’s privately owned structure and full transparency of fees – including a global fiduciary management fee in addition to management fees of individual fund managers sourced in open architecture – ensure total independence and alignment of interests with clients, claims Mr Erné.

Single family offices are evaluating their core competencies more deeply and have shown a willingness to establish strategic alliances as they have become “more business like” in their focus, explains Loraine B. Tsavaris, senior client advisor and managing director of Rockefeller & Co in the US.

The New-York based MFO started out life in 1882 as a single family office before opening its doors to other families in 1980. Today the firm and its subsiduaries have about $41bn in assets under administration.

When choosing their partners, “families resonate with private firms, which are in control with their own destiny,” says Ms Tsavaris. “A firm’s culture, focus and commitment to the client is critical.”

Global reach

As families are increasingly more global, they need very good estate and financial planning as well as global custody.

“A lot of wealth is being created in areas like Asia and Latin America and our families are increasingly global,” says Eileen Foley, managing director, Family Office and Charitable Solutions at BNY Mellon Wealth Management.

As global borders come down, families need to be able to operate in locations close to where their family members live. They are increasingly looking to have multiple offices in multiple jurisdictions, as opposed to the past, when they would conduct all their family affairs within their home country. This trend may be also driven by factors such as a challenging geopolitical or regulatory environment in the jurisdiction where the family resides.

“Families are looking to jurisdictions, which possess the stability and the intellectual capital to allow them to fluidly manage their complex financial needs and accomplish their goals across multiple jurisdictions, in concert with their home country,” says Ms Foley, noticing increased business flow to the US. “This trend has been emerging for a few years as the world gets smaller, but we are seeing a lot of it now. The bright line between US and foreign family offices is not as sharp as before.”

In Europe, the crackdown on private banking secrecy and increased regulatory scrutiny have driven some wealthy families to move their affairs from Switzerland to ‘safer’ jurisdictions, such as London, in order to avoid any possible speculation about their level of disclosure or compliance.

“For our group, the level of assets coming from Switzerland has been significant over the past couple of years,” says Charlotte Denton, managing director of the Global Family & Private Investment Offices Group at Northern Trust in London.

 “Families are very concerned about their reputation, that’s why confidentiality and the ability to be discreet is so huge in our business.”

Wealthy families select providers that can boast a full operational integrity, and they are increasingly more focused on fee transparency, she says.

This increased fee sensitivity has resulted in an appreciation for clients to have an independent, consolidated reporting, enabling them to monitor the fees have been charged and monitor the performance of managers and service providers. Investing in sophisticated tools to provide this service is seen as a key priority at Northern Trust, says Ms Denton, as the firm is investing $2bn in its technology over the current two year period.

Risk management, too, is an increasingly important service for wealthy families, especially post crisis, as at “a touch of a button” they can see what their exposure to Greece is, for example, she explains. What is also crucial is the ability to provide operation efficiency, which is facilitated by having clients’ assets in custody.

The Global Family Office Group at Northern Trust has about $296bn in assets under custody and $54bn in AUM, and serves 400 families globally, each having on average $715m in assets with the group.

Complex web

The ability of consolidating data from multiple sources has become a key challenge for a family office especially since the fallout from the financial crisis, notes Clive Stelfox, head of client relationship management at provider of consolidated reporting Multrees Investor Services in the UK. The loss of trust in major banking organisations has seen the modern family office take direct responsibility for managing family assets, and as a consequence they have found themselves at the heart of an increasingly complex web of specialist asset managers, private equity houses, wrap providers, client advisers and client nominated custodians.

“Like juggling eggs, managing the flow of data across all aspects of the family office could get very messy if the right systems and processes are not in place,” he says.

The ability to consolidate data from multiple sources into a single coherent report that gives clients a holistic picture of their investments is a key challenge and one that requires family offices to reassess old and archaic systems to keep pace with the changing times, says Mr Stelfox.

Family governance is also an area of growing interest. There must be an element across all cultures of “putting off the inevitable” as many HNW families have not put proper succession planning in place, notes Stephen Skelly, head of Private Wealth Solutions Emea at HSBC Private Bank.

What is becoming increasingly common with these large clients is the concept of written constitution, he says, in an attempt to prevent disputes over the direction of the family business or the future ownership of their private wealth in general.

This “consultative process” sees the involvement of all the family members to discuss their needs and aspirations, anticipate areas of conflict and find some form of consensus, as opposed to having a single conversation with the head of the family.

“Once a set of rules or a framework the majority of the family agrees with has been defined, it’s important then to ensure it is going to be legally effective. That’s what we call hard wiring,” says Mr Skelly, explaining this can result in all kind of different implementation, such as some form of trust or corporate vehicle.

But there is no one size fits all, and some families may not want to go down this route, as the head of the family may be reluctant to give up power.

While market type of investments may drop by a certain percentage in a recession, significant wealth destruction can come about through not adhering to regulation, through events such as a divorce or very poor succession planning, says Stonehage’s Mr Nolan. “If you destroy the business through poor succession planning, you have destroyed the intergenerational pot for the family down the years, and that destruction can be far more damaging than a loss in your investment portfolio.”

What is really important is to ensure the sustainability of the family governance, of the family rules, procedures and risk platform that are set up. The risk is that the family adheres to the risk platform and stick to the governing body it has put in place in times of crisis and then when things improve – like today, when the stockmarket moves up and corporate activity increases – the family governance is put on the back burner again. And the role of a multi-family office is to ensure that family governance continues, he says.

If more and more people are putting written constitutions in place, the adherence to the constitution comes about by having the right procedures, a commitment by the family to make the process sustainable and the involvement of a third party.

When they put a constitution in place by themselves or with external advice, it is too easy for family members to skip family council meetings, for example.

A family office must be seen as the ‘business of family’. “Very significant families should run their affairs in exactly the same way as corporate governance, and a listed or major company would never cancel its board meetings, apart from a very few exceptions,” says Mr Nolan. 

Banks remain in the game

The hope that investment boutiques could drastically grow their client base – with scandals and misconduct in the banking sector since the crisis significantly denting client trust in banks – has not really materialised, observes Peter Sartogo, managing partner at GWM Group, an international independent financial adviser which started off as a multi-family office wealth manager in 2000 and today manages around €6bn.

By exploiting the liquidity crunch, banks have been able to exert heavy pressure on clients, offering services such as leverage or lending to those having assets in custody with them with greater ease. This form of “moral suation” has somehow stopped clients from taking radical steps and leaving banks, as previously anticipated.

Wealthy families that have moved their assets to MFOs continue to use banks for the custody of the assets, but custodian services offer only 20 per cent, or less, of the profitability offered by managing assets, states Mr Sartogo.

Increased regulation has significantly affected the relationship with the banks. Before the crisis, institutional clients such as MFOs had a more privileged relationship with banks, feels Mr Sartogo, which tended to provide a more holistic service.

“Today, with compliance having increased disproportionally, banks are so regulated and so understaffed that any request falling outside the mainstream services and products they offer is seen as a problem,” he says, citing for example the six month waiting period to obtain a leverage on a dedicated fund set up for a family.

Banks try and snatch up clients all the time, but then they offer the same types of services, he explains.

Regulation has increased for all financial institutions, and while the general consensus in the industry is that MFOs do not have any opportunity to “slip through the net”, and attract more clients, based on the fact that placing the money with them can avoid banking regulation, this increased regulatory environment may provide an opportunity to multi-family offices.

Banks need to compartmentalise everything and channel all their clients into a standard asset management, for example, while MFOs are more flexible and offer tailor made services and products, says Mr Sartogo.

It is a fact of life that banks have to deal with greater regulation and that knocks onto clients, says Stonehage’s Mr Nolan. “Clients and families have to appreciate that they may have to jump through more ropes to get where they want to, and it does take slightly longer.”

Family offices have to be prepared to be, and are indeed, increasingly multi-banked. A very large family might have five major banking relationships; even more if it is international.

“Individual family offices are opening more banking relationships, they are very much shopping around and picking and choosing what they go to each bank for, recognising each bank’s strengths and weaknesses.”