The real difference between Private Equity, Hedge Funds and Family Office. Who should I target as a source of capital for my renewables project/company?
The real difference between these different capital sources is not much. Historically one could generalize that hedge funds are traders, while private equity funds are more likely to be long term investors with multi family office (MFO) somewhere in between. Depending on the nature of the capital requirement it was clear where to go, but not anymore. In recent times the distinction has blurred as hedge funds have taken a more active role in acquiring companies and PE and MFO are investing in high yield illiquid assets.
In the past, hedge funds and some MFO could be distinguished from private equity funds in terms of their investment strategies and more specifically their lock-up periods and were forced, by their investors, to maintain a certain high percentage in liquid investments to provide more frequent access to the capital invested. The requirement to maintain liquidity to satisfy investor withdrawals caused hedge funds to concentrate asset allocations on highly convertible and perhaps less profitable financial instruments debt, securities, options, futures, FOREX and tended to keep away from longer term commitments. Also, hedge funds and their advisors are likely to come under increasing regulatory scrutiny in coming years due to their aggressive and low lending standards and lack of proper loan covenants of the past.
Structure of assets of pension funds in selected OECD countries 2006 (in per cent of total investment)
Source: OECD, Global pension statistics.
Note: Investment funds include “mutual funds” and private investment funds” (including private equity and hedge funds).
On the other hand, private equity fund managers were more likely to make highly illiquid investments in private companies or LBOs. Investments are usually made early in the life of the fund, two to three years, and then are held for a period of between five and ten years with little additional new investments and then liquidated it distributing the cash and shares generated. Private equity fund partnerships typically invested in IPOs, LBOs and corporate restructurings participating directly in the management of the target and presumably reducing risk.
The blurring and overlap of the investment terrains of PE, MFO and hedge funds is not only specifically due to the financial meltdown and changing regulatory environment. The change began even before, where hedge funds and private equity firms were banding together and entering each other’s turf in an attempt to get to the best deals in an increasingly complex and global playing field where new markets are emerging both geographically as well as in new industries (renewables).
According to Dealogic, hedge funds accounted for at least 50 LBOs already in 2006. The blurring of the differences between hedge funds and private equity funds reflects increased competition among the growing number of funds and the huge injection of capital between 2005 and the middle of 2007, making it more difficult for fund managers to provide superior returns.
For example, Highfields Capital Management, a hedge fund, which owned 7% of Circuit City, made an offer to buy the entire company in 2005. The Blackstone Group (a PE firm) and Lio Capital (a hedge fund) banded together to buy the European beverage division of Cadbury Schweppes in early 2006.
Whether it’s the traditional asset managers such as Pimco and Blackrock, private equity, or hedge funds, asset management is in fact the next growth area in the financial services sector, in spite of the credit crisis (which someday will end). This means that investment firms are scrambling to the few remaining solid asset sectors available such as renewable energies which in itself is a high growth sector and while the era of thriving independent, highly leveraged and largely unregulated investment banking behemoths (Lehmanm Brothers, Bear Stearns, Merrill Lunch…) may be over, the role of investment boutiques providing the necessary specialized expertise is likely to continue to thrive, providing proper matching and structuring of the new investment environment . More and more investment banks, PE and hedge funds are partnering with smaller highly specialized firms to advise and broker in emerging and niche markets to compete with each other in the lucrative asset investment and management area.