Mayfair, Manhattan, Juneau
HEY finance hotshot! Want to trade in the London penthouse and 90-hour working week for something totally different? Do you prefer big mountains to big buildings, long summer evenings to long commutes and yet want to pursue a rewarding career in finance? Why not move to Juneau! “You will find all these things and more at the Alaska Permanent Fund Corporation,” promises the website of the government agency which manages the oil revenue Alaska is setting aside for the future. Sovereign-wealth funds and other big institutional investors from Ottawa to Oslo and—if icefishing isn’t your thing—Abu Dhabi to Auckland are hiring. The intention is to lure talent from private-equity firms and hedge funds in order to make the same sort of investments in-house.
Sovereign-wealth funds made direct investments of around $186 billion last year, nearly triple the level of 2012, according to the Sovereign Wealth Fund Institute, a consultancy. Pension funds, insurers and family offices are doing the same—a response in part to the exorbitant fees and disappointing returns of many asset-managers. ADIA, Abu Dhabi’s sovereign-wealth fund, with assets of $773 billion, now employs 1,500 people. South Korea’s National Pension Service ($430 billion) will boost its investment team by 60 people this year. Canada’s Pension Plan Investment Board recently opened a fourth international office, in São Paulo, to enhance its ability to “source and manage complex, sizeable investment opportunities”.
The trend is a logical extension of the practice of co-investing, in which institutions put money directly into specific deals alongside funds in which they have also invested. Institutions have demanded such opportunities both to cut the overall cost of investing via private-equity funds and to gain experience that might help them initiate deals of their own in future.
The next step is to ally with other like-minded investors. A Canadian pension fund, a British one and Kuwait’s sovereign-wealth fund last year bid (unsuccessfully) for Severn Trent, Britain’s second-largest publicly traded water company. Some big institutional investors are now going it alone: a Singaporean sovereign-wealth fund recently bought a significant share in RAC, a British car-breakdown service, outbidding private-equity firms such as Blackstone, CVC and Charterhouse.
The financial crisis made big investors realise they had little understanding of their own portfolios, were overpaying middlemen—fees of 2% of the sum invested and 20% of profits were once common—and were working to different schedules (sovereign-wealth funds invest for generations; private-equity funds for five years). A long investment horizon is the institutional investor’s greatest competitive advantage, yet asset-managers’ cycles have become ever shorter, says Ashby Monk, an adviser to such investors.
Insourcing is easier said than done, counters one private-equity manager, who says his clients all claim to want to co-invest but most do not really have the capability or nerve to assess deals. Building an investment team is too expensive for all but the biggest. Attracting top talent is also hard when government salaries are restrained by law (as in America), or when the investor is based in a desert or by a glacier. But lay-offs during the financial crisis left lots of experienced moneymen willing to consider jobs in Juneau or Abu Dhabi.
Whether internal asset managers earn higher returns is another question. A study released earlier this year by CEM, a Canadian research firm, showed that internal private-equity investments (including co-investments) outperformed external ones by over three percentage points and beat funds of funds by five. This was almost entirely due to lower costs.
Things can easily go wrong: the Korea Investment Corporation’s $1 billion of direct private-equity investments underperformed those it made through private-equity funds by nine percentage points last year. But when they go right, institutional investors tend not to look back. Mark Redman left 3i, a private-equity firm, to head the private-equity arm of OMERS, the Canadian pension fund that bid for Severn Trent, drawn by the “extreme attractiveness of permanent and patient capital”. Over the past five years, gross returns from its direct private-equity investments have exceeded those it has made through external funds by 44%. As a result, OMERS reduced the share of private-equity investments it farms out from 59% in 2007 to 27% by the end of 2013 and plans to cut it even further. Even the private-equity types who have not moved north of the Arctic Circle will shiver at such figures.