Technology can counter investor conservatism.
By Kinson Lo
"For too long the best investments have been out of reach, even for the majority of sophisticated investors. Investment technology platforms can democratise access to private investments, helping investors to build more diverse, resilient, and higher performing investment portfolios,” says Kinson Lo, founder of London-based online investment platform Dot Investing. In this op-ed Lo explains how he believes tech can streamline the investment process and why it's particularly important during times like these.
We can now see the impact of the global pandemic on private equity across results from both Q2 and Q3 in 2020. One of the trends that became strongly evident in Q3 was a growing conservatism among investors; directing investments towards larger funds and established markets. This is a natural psychological reaction to the chaos - economic and otherwise - that 2020 has witnessed. However it may well be the wrong one.
Experience of financial crises, both historic and more recent, suggests that investors are confronted with a rare opportunity to gain outsized returns on investments from the 2020 vintage. Conversely, the distance between winners and losers will be more extreme, so deciding on investment strategy can seem a high stakes game. It requires prodigious expertise and resources to pick the best-in-class funds. Indeed investors are faced with a wider choice than ever with a record number (3,968) of funds in the market, according to Preqin’s Q3 report.
In this context larger funds and firms operating in established markets can represent soothing security to investors. Undoubtedly investing in some of the larger funds will prove an astute move but this won’t be the case across the board. To give one counter example, smaller firms are more agile and likely to take an entrepreneurial approach; those that succeed have a strong chance of outperforming the established funds.
Inevitably smaller funds, and emerging markets are seen as higher risk, with venture capital and growth funds also finding themselves on the margins of investor preferences. In many cases this will be the correct call, however it will certainly result in some regrets. The key to unlocking a more diversified investment strategy is found in intensified due diligence. In the remote working era this presents operational and technological challenges for both investors and fund managers.
The growing market share of the larger private equity managers implies that the greater manpower and resources they have at their disposal puts them in a stronger place to convince investors in virtual diligence processes. The lack of face to face meetings may also be a significant factor in choice as investors stick to working with known quantities while they are still unable to meet new contenders in person.
Technology can level the playing field, widening access to investment opportunities and providing benefits to both investors and fund managers in the longer term. Fintech companies are creating opportunities for the smaller funds to compete with the major players. Some of these tech companies concentrate on offering bespoke diligence processes and software to help investors assess opportunities while others provide a marketing platform for funds to reach a wider audience.
A small but growing number of fintech platforms combine both elements; allowing funds of all sizes to be presented to investors, once they have successfully passed the same diligence and verification checks. Additional diligence and the final decision will still be the responsibility of investors but with some of the heavy lifting already done for them.
Looking beyond the pandemic, it is probable that a hybrid approach of both virtual and face to face diligence becomes the norm for investors and funds. Some processes and interactions will always work best in person, but there will be a wider acceptance that many can be conducted virtually, and, are in fact improved by doing so. Currently there is an unprecedented opportunity for investors, both in terms of market conditions and variety of funds clamouring for their subscription.
The risks of getting it wrong have never been greater, so it would be a mistake to stick to what you know without properly exploring alternative options. Correctly combining human expertise with technology can untie the gordian knot of remote diligence, allowing investors to confidently choose from a broad range of investments, regardless of size of fund.
Whether or not this will be enough to persuade investors to take a more diversified investment strategy in response to a global pandemic and financial crisis is a separate question.