What Is a Sidecar Investment?
A sidecar investment is a strategy in which one investor allows a second investor to control how to invest their capital. A sidecar investment usually occurs when one of the parties lacks the ability or confidence to invest for themselves. This type of strategy effectively places trust in someone else's ability to gain profits.
Outsourcing investment decisions to professional financial advisors, portfolio managers, or sub-advised funds are common examples of using sidecar investment.
- A sidecar investment is one made by a third party on behalf of another investor.
- Sidecar funds exist when a group of investors with differing interests participate in investing together.
- Sidecar investments are often made under the purview of professional portfolio managers, such as via actively-managed mutual funds or ETFs.
Understanding Sidecar Investments
The word "sidecar" refers to a motorcycle sidecar; the person riding in the sidecar must place their trust in the driver's skills. This differs from coat-tail investing, where one investor mimics the moves of another. A variation of sidecar investment is the sidecar fund, which is an investment vehicle in which several groups with different interests are involved. For example, passive investors, as well as institutional investors or LPs interested in more deal-making opportunities, can be a part of the same vehicle investing in companies and startups.
Sidecar investments and coattail investments are usually not central tenets in portfolio management. Portfolio management is a complex art and science that incorporates several types of strategies, possibly including sidecar investment, under a large umbrella or investment policy. Portfolio managers must match their investments to the objectives of the client (individual or institutional). They usually have a fiduciary duty to do so.
Sidecar Investment and Portfolio Management
Portfolio managers will determine a specific asset allocation, balancing risk against performance, by spreading out investments among stocks, bonds, cash, real estate, private equity, and venture capital, and more. For each asset class, investment managers determine particular strengths, weaknesses, opportunities, and threats. For example, if a client cannot take on significant risk, the manager might decide to place the majority of assets in domestic instead of international markets and focus on safety as opposed to growth. A myriad of trade-offs exists and require constant research and vigilance.
Example of Sidecar Investing
Suppose there are two individuals—Jessica, who is experienced in trading corporate bonds, and Barney, who has a background in real estate. Jessica and Barney decide to work together via a sidecar investing strategy. In this case, Jessica would give Barney money to invest in real estate on her behalf, and Barney would give Jessica funds to invest in company bonds. This setup allows both Jessica and Barney to diversify their portfolios and benefit from one another's expertise.
As an additional example of coattail investing: a money manager or institution purchases companies with a buy-and-hold mentality (i.e., they make bets for the long term), and a retail investor, although they might not have access to the full breakdown of the manager’s portfolio, can access the manager’s top ten holdings in a public investment policy statement (IPS) and follow suit. If the manager buys securities with a short time horizon and frequently turns over their holdings, on the other hand, it can be difficult to keep track.