What is Assets Under Management?
Assets Under Management (AUM) refers to the market value of the capital contributed to a fund, from which an institutional firm invests on behalf of its clients, i.e. limited partners (LPs).
Assets Under Management (AUM): Fund Investment Terminology
The term “assets under management”, often abbreviated as “AUM”, refers to the amount of capital managed by an investment firm on behalf of its clients, i.e. limited partners.
If applicable to the scenario, the limited partners (LPs) of a fund are the investors that collectively contribute capital to the fund, which is managed and deployed by the general partners (GPs) to generate a return.
Common examples of investment firms in the financial services industry where the AUM metric pertains include the following types:
- Private Equity (LBO)
- Hedge Funds
- Growth Equity
- Mutual Funds
- Venture Capital (VC)
- Real Estate
- Fixed Income
- Exchange Traded Funds (ETFs)
Understanding AUM by Industry
The frequency at which the assets under management (AUM) changes in industry-specific. Likewise, the method to calculate the metric is also distinct to each industry.
- Hedge Fund → A hedge fund’s AUM can move up or down based on the performance of its portfolio returns, i.e. the market value of the securities owned changes.
- Mutual Fund → A mutual fund’s AUM can be impacted by the inflows / (outflows) of capital in the fund, such as if an investor decides to provide more capital or remove some of their capital (or if the mutual fund issues dividends).
- Private Equity → A private equity firm’s AUM tends to remain more “fixed”, as capital raising occurs periodically with a set dollar amount raised. The actual AUM is typically unknown, as the actual market value of the investment is unknown until the date of exit (i.e. when the investment is sold via a sale to a strategic, a secondary buyout, or an IPO), contrary to the public equities market where securities trade constantly. In addition, there are lock-up periods in the agreements that can last long periods, where the limited partners (LPs) are prohibited from withdrawing funds.
AUM in Private Equity Industry: Impact on LBO Fund Returns
The greater the assets under management (AUM), the more difficult it becomes for a private equity firm, i.e. financial sponsor, to achieve outsized returns because the number of potential investment opportunities declines and the capital at risk is greater.
Therefore, most if not all large institutional asset management firms are “multi-strat”, a catch-all term referring to firms that utilize a diversified range of investment strategies, most often in separate investment vehicles.
Given the sheer magnitude of the capital managed, these institutional firms must become more risk-averse over time and diversify into various asset classes. Considering the wide range of strategies employed for the sake of diversification and risk management, the multi-strat approach offers more stability in returns in exchange for less risk and more downside protection, as each different fund strategy essentially functions as a hedge against all the other funds.
For instance, a multi-strat firm can invest in public equities, bonds, private equity, and real estate to allocate the risk across different asset classes and overall de-risk its portfolio holdings.
Considering the fund’s AUM, capital preservation frequently takes priority over achieving outsized returns – albeit, certain funds might take a more aggressive approach in the pursuit of achieving higher returns, which is offset by the other strategies.
On the flip side, certain firms intentionally place a “cap” on the total amount of capital raised per fund to prevent their returns profile from deteriorating.
For example, it would be out of the ordinary and very uncommon for a lower middle market (LMM) private equity firm to be competing with a mega-fund to acquire an LBO target valued around $200 million, as that range of valuation (and the potential returns) is insufficient to interest larger firms.
In fact, even if PE firms in the lower middle market (LMM) space could raise more capital, their priority is typically achieving high returns for their LPs rather than maximizing their fund size, which coincides with a strategically determined cap on the amount to raise, as well as charging lower management fees (%).
