How the Outsourcing of Fund Manager and Co-Investment Selection Is Evolving
David Chiang’s new firm Idyllic Partners builds on his dynamic career in alternative asset management on both the fund and direct investment sides of the industry.
Chiang (pictured right) started out in the financial sponsors group at DLJ and held roles with ever-increasing seniority at consumer-focused private equity firm L Catterton, the sovereign wealth fund GIC, PE fund of funds Wilshire Private Markets, and most recently, as senior managing director, head of external funds at Soros Fund Management.
In aggregate, his 23 years of experience have given him a well-honed and unique perspective on investment selection. Chiang’s entire career has been fully engaged in private markets from many more perspectives than most, and he is now synthesizing his experiences and global network into a compelling new business.
Q: Thank you David for agreeing to share your insights with the Worth community.
A: Thank you for having me, Nancy.
To start out, given your multi-faceted experience with alternative asset management selection and allocation, please speak to the ever-evolving models for outsourced investment selection and perhaps how the three main categories cross over with each other.
We’re speaking about the classic consulting model, the fund of funds model and the outsourced CIO (OCIO) model, which has evolved to include many more options since 2008 to 2009.
Please speak to how your understanding of these outsourced models led you to create Idyllic Partners.
All three of the outsourced investment models you list have their benefits and their drawbacks. Consultants can provide guidance across multiple asset classes and act as gatekeepers but typically do not have discretion, so investment decisions require more time; also, most are not incentivized to take calculated risks to back emerging managers and first-time funds. Typical fund of funds provide asset class specialization, but many have struggled to outperform their peers and thus have not justified their incremental layer of fees which leads to challenged fundraises. Given that fund of funds are paid more for co-investments and secondaries, they are also often less incentivized to generate outsized returns on the funds side. The growth of the OCIO model has been driven by demand for a total portfolio management solution combining a holistic portfolio approach with asset management. However, there has been a proliferation of OCIOs with unclear differentiation, which makes it more challenging to find the best fit.
All of these models fulfill an important role and that is to provide knowledge and smart investment options to LPs that need to leverage their existing team and expertise to achieve internal exposure and performance goals. For instance, family offices may not have the scale or desire to create large internal teams to cover the entire spectrum of opportunities.
Idyllic Partners has been created to try to empower limited partners with the benefit of scale and to try to address the drawbacks of the current outsourced alternatives. I suppose you could call Idyllic Partners an OCIO focused on private markets.
As much of your career was built as a private funds’ investment professional on the LP or investor side, please speak about how the LP-GP relationship has evolved.
Over the past two decades, the LP universe has become much more sophisticated, and data-driven analytics have helped the industry become more transparent. I believe that the entire PE ecosystem is stronger when LPs and GPs work together to keep driving progress and improvement in the way companies are created and strengthened.
There are thousands of funds to choose from across many categories from venture capital to growth equity to leveraged buyouts. The function and mindsets across each category tend to be different, so an ability to develop relationships across the entire spectrum allows one to make the best risk-adjusted returns. Some LPs have teams to focus on each sub-sector and others have small teams that act as generalists.
As the private equity universe has matured, there are an increasing number of smaller funds being formed by ambitious and incredibly talented individuals/teams. I have found that the few GPs who take the leap to try to create their own firm are a special group of entrepreneurial and highly capable professionals who are willing to bet on themselves. In general, I believe there is an increasing openness on the part of many limited partners to selectively back these groups.
How have co-investments affected the way LPs and GPs interact?
For those that choose to do co-investments, it has become very competitive for allocations as there are more LPs interested in such deals. Having a process and team to source and diligence such transactions is key to strong performance. Some LPs have sought to take a more direct and proactive approach to deal partnering and have helped warehouse transactions on behalf of GPs. I find that GPs want capital sources that can provide capital but not necessarily share governance. In instances where it makes sense to share governance, a GP is more likely to choose an LP that is not competitive with them, but only if the LP has the capability to be a strong deal partner.
Diversity in asset management is a hot topic right now, given current social challenges facing the U.S. in particular. What are your thoughts about how the investing community should approach this?
It’s clear that investment managers need to change with the times, and diversity is an important piece of this puzzle.
Private equity firms tend to recruit from similar types of organizations. While there has been some progress, I believe the industry needs to shift and open up to different types of people, perspectives and approaches. Diverse candidates often prove themselves to be hungry and very competitive given the dearth of opportunities classically presented to them, in direct contrast to the stereotypical sentiment around the hire of diverse candidates being a “handout” or a quota requirement.
Different viewpoints make for better decision making. Despite a persistent industry reticence to accept studies that show this, it’s time for us to collectively move forward. As the underlying companies and management teams are becoming more diverse, I strongly believe that the investment community should take an active role in embracing the changes for the benefit of investment returns and society as a whole.