Level 1 CFA® Exam:
Characteristics of Fund Investment, Co-Investment & Direct Investment Methods

Let's see into the advantages, disadvantages & due diligence for fund investing, co-investing, and direct investing. We will discuss the following topics:

1. level of investor involvement,
2. investor's investment expertise,
3. capital requirements,
4. amount of management fees and performance fees,
5. active portfolio management,
6. control of an investment selection process,
7. due diligence process,
8. diversification benefits.

1.

The level of involvement of an investor is the main difference between these 3 types of investment methods. In the case of fund investment, the level of involvement is the lowest as the investor delegates the investment decision-making process to the fund manager. As the level of involvement increases, we can see that in co-investment the investor is still delegating the investment decision-making process to the fund manager but has a right to co-invest in the same assets that the fund manager decides to invest in. In direct investment, the level of involvement is the highest as the investor is the one who is making all the investment decisions.

2.

The level of involvement of an investor is related to the investor's investment expertise. In the case of fund investment, the level of expertise required from the investor is the lowest. The investor only needs to know how to select a fund and monitor its performance. In co-investment, the level of expertise required from the investor is higher as the investor needs to be able to understand and assess the investment opportunity that the fund manager is considering. In direct investment, the level of expertise required from the investor is the highest because the investor is the one who is responsible for the whole investment decision.

3.

The capital requirements are also different for the 3 types of investment methods under discussion. In the case of fund investment, the capital requirements are usually lower as the investor is only investing a part of the fund’s total capital. In co-investment, the capital requirements are usually higher as the investor is investing alongside the fund and is therefore required to commit a larger amount of capital. In direct investment, the capital requirements are the highest as the investor is the only source of capital for the investment.

(...)

8.

Out of the 3 methods of investing, fund investing offers the best diversification benefits if we take into account the amount of money, engagement, and time required to diversify the portfolio of assets. Direct investment requires the greatest amount of resources to get to the optimal level of portfolio diversification.

To sum up, the main differences between the 3 types of investment methods include the level of the investor’s involvement, the capital requirements, the amount of management fees and performance fees, the level of active portfolio management, the control of the investment selection process, the due diligence process, and the diversification benefits. It is up to the investor to decide which type of investment method is the best for him based on his or her investment objectives, investment expertise, and capital available for investment.