Capitalising On An Expanding Liquidity Toolkit

Q How would you describe the state of the fund finance market and the expanded liquidity toolkit available to managers?

Jons Lehmann: The fund finance market is in an interesting phase at the moment, with a lot of creativity across the industry. As a result, liquidity is gen erally good, with financial institutions and private capital providers looking for opportunities to make capital available.

What is really helping the market grow at this stage is continued innova tion around the different types of fund and finance products coming to market that both create new access points for investors that were previously unable to participate in this market and open up new liquidity pools to sponsors. Where previously, capital was flowing in mainly from traditional institutional investors, there are now opportunities to receive capital and liquidity from insurance providers, retail investors, secondary investors and other market participants. That is evidenced by the different types of products being put to market and on which we at Fried Frank advise our clients, whether these are LP- or GP-led transactions.

Adam Summers: The expanded liquidity toolkit available to managers is a direct result of the state of the market. Supply right now is extremely robust. We are seeing capital, specifi cally in the form of debt, coming into structures in the fund finance market in so many different ways, some of which are new. We are seeing rated note feeders and collateralised fund obligations and other securitised and structured products, plus the range of providers is growing, so supply is expanding in a big way. 

Q How are managers choosing between the tools available, and what shapes that decision-making?

AS: The innovation we are seeing is being driven by managers willing to shape their structures around what works for their clients. They want to bring in the capital but also be as accommodating as possible in a way that is efficient for the capital pro vider, be that a bank, an insurance company, a sovereign wealth fund or anyone else.

We are currently working on a transaction where the financing is coming from a traditional bank but the bank will get significantly better capi tal treatment for the loan if it is struc tured as a total return swap. So, while the structure creates some extra work and a little bit more complication, the manager is able to obtain advantages on rate and tenor by structuring the financing in a way that works for the bank.

JL: What shapes decision-making as to which product to choose depends on what the fund manager needs at a particular point in the fund cycle. They are thinking about whether they need to raise additional capital for their investments, access a new pool of investors to expand their fundraising opportunities, return capital or provide other liquidity to investors, or ensure their fund continues to have liquid ity for an extended period of time. Different products provide different solutions, and today’s broader menu of tools allows managers to facilitate and optimise fund performance.

Q What are managers looking for from their lenders today, and how is the universe of providers evolving?

AS: The key need is flexibility – that is the word used most by our clients. Lenders need to understand the expanding menu of structures and be willing to lend in ways that work for the overall transaction. Sometimes managers just want a loan that is slightly different to the one they had a year or two ago because the collateral looks different. Other times, it may be that there is more insurance capital coming in and that needs to be con sidered in structuring the transaction.

Many of the products that insurance companies are coming into, such as CFOs and rated-note feeders, require a liquidity facility. Funds therefore want their relationship banks to engage in conversations around different types of liquidity facilities, including facili ties that may not be secured by capital commitments but instead sit alongside an investment structure that looks different.

JL: The other term we hear a lot is agil ity. A lender or other capital provider that can accommodate different structures and products and think of new solutions to address a sponsor’s current challenges or objectives is very attractive.

Q Are certain solutions or structures being tapped more than others, given the state of liquidity? What are the emerging trends?

AS: It is not really a matter of some being tapped more than others. What we are seeing is different strategies working better than others for different investors and for the needs of different underlying funds or strategies.

Private credit funds might be better able to utilise rated-note feeders, for example, because of the nature of their assets and their cashflow, whereas a pure-play private equity buyout fund will have different needs and different capital that may be better able to create more of a CFO structure.

One thing we do see becoming more prevalent in the credit space is rated note feeders, which are now at least a discussion in almost every fundraising, even if they are not executed.

JL: There is a trend towards rated and securitised-type structures or structured products being used, but they are in parallel with and alongside traditional sublines and other types of facilities.

We are not necessarily seeing prod ucts replacing each other or being 

“We are seeing capital, specifically in the form of debt, coming into structures in the fund finance market in so many different ways”

ADAM SUMMERS

favoured over others. Rather, the market is becoming more accretive and people are broadening the complement of prod ucts that they are using alongside each other. That is not to say that every spon sor will use everything available, but they now have a much broader choice.

Q Finally, how do you think market will develop, and what might fund finance look like five years from now?

JL: We expect to see more product diversification going forward. There will be a continued evolution of prod ucts made available to this market, and we are going to see more creativity.

At the same time, we will probably see an element of automation of certain processes being put in place that will again give rise to new opportunities.

AS: We are also going to start to see even more of a collapsing of debt and equity. We have been seeing that for some time, with insurance coming in as limited partners of funds through the form of debt.

In addition, we have seen insurance companies actually providing true debt to funds as lenders on subscription facilities and NAV financings. That will continue, and we can expect further creativity as funds and investors figure out more ways to work together to enhance the liquidity toolkit and opti mise returns.

Originally published PEI Private Credit.