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Funds Finance Outlook

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    Welcome to our first Funds Finance Outlook report

    Utilising our London fund finance team of six partners, two senior counsel, an ex-head of syndications and dozens of committed associates - the largest single jurisdictional fund finance team in the world - alongside our teams in New York, Luxembourg, across Europe, through Australia and all major jurisdictions in Asia (an unrivalled global network of experienced fund finance lawyers) we will investigate and comment on all the key issues affecting the fund finance market at present.

    As a team of market professionals, bankers, lawyers, and fund advisers over the last 25 years we have seen some 'interesting times' in this market but given the relative ease in which the fund finance market strolled through the Global Financial Crisis ("GFC"), we think it's fair to say that never has the market gone through such a transformational time as it is presently. Through a series of articles over the year, we hope to speak with a number of senior bankers, fund lenders and fund borrowers and ascertain their take on the key issues in the market.

    During the course of 2024 as well as bringing relevant legal updates we also intend to discuss broader (more interesting?!) sector issues that I am sure will foster different reactions across the market. 

    Examples of the topics we intend to cover are:

    Exponential growth of Net Asset Value ("NAV")

    How can we start any market commentary without referring to the explosive growth of NAV facilities? Or question: "When is fund financing, not fund financing? Answer…. when is it NAV?"

    After how many years of FFA panels discussing NAV and concluding that little was being done, the last 5 years has seen an initial growth in a simple end of life and lowly levered infra secondary fund facilities into the present exponential growth of a myriad of NAV offerings available to all the fund sectors.

    Indeed such is the proliferation of NAV that referring to a NAV market is remarkably naive. NAV is itself a fully stratified market from the ‘simple’ prior structures, through the growing but relatively nascent mid-market NAV offerings, across single asset or portfolio’s into the high-end K&E led structures. Lender communities have blossomed and different lender classifications are finding their position on the spectrum.

    The clear risk distinction from our beloved subscription finance, across GP and other more bespoke fund lines into the asset focused, investor remote facilities does make you question whether indeed we should be placing the moniker of ‘fund finance’ on NAV facilities – Lee Doyle, with his old-ish, General Counsel hat on certainly concludes that they are not. Perhaps most clearly reflected by the prevalence of ex-leverage bankers and lawyers dominating this arena.

    Or perhaps, our 25 years in the market is starting to show and this is just a new evolution to the 'new fund finance'? More to be discussed….

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    Pricing and regulatory arbitrage

    Any trip by a London lawyer to New York, or New York to London, or indeed any attendee at any (of the multiple) Fund Finance Association ("FFA") events will quickly conclude that this is truly a transatlantic and still rapidly growing global market.

    Market participants inevitably have strong positions in their own jurisdiction but in previous years it appears that pricing and capital allocation has led to banks being broadly agnostic when deploying their balance sheet, with shorter term market driven pricing perhaps creating short term priorities. However, are the regulators unwittingly about to create some longer-term pricing arbitrage?

    As the US, UK, European and Australian regulations begin to risk a greater divergence of rules and timing of regulatory change across Basel 3/3.5/4 (call it what you will), we should ask whether this will this upset the market? Will certain banks obtain regulatory benefits? Will others suffer?

    This will certainly only play out over time as clarity in timings and regulations become clear but how long before lender behaviour is being impacted by expectations of what is to come…is it already?

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    Investor community/macro-economic matters

    Subscription finance has of course always been focused on the investor community and the structure of the fund. At different times as new investors came to participate in the funds and as funds tweaked their structure to provide the growing investor community with their preferred model, different risks have had to be considered. These involve Single Name Concentration risks across multiple fund portfolio’s; appreciation and acceptance (or otherwise) of Sovereign Wealth Fund risk; single investor funds; and co-investment side cars. As investor communities in different jurisdictions have increased and their percentage of fund subscriptions has swelled, thought can be given to how, in today's world of macro tensions, this plays out. The extreme example of Russian sanctions gave a very clear direction of travel to lenders, but are there more nuanced and hence challenging decisions to come – will different banks, with their own home political arenas, be forced/encouraged to act differently?

    The alignment of fund risk and bank risk and their naturally differing risk appetites in what appears an increasingly fractious geo-political environment, will be an interesting area to explore.

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    Funding models – a change in the dynamic

    Larger facilities means greater balance sheet commitment. Have we reached the point at which banks feel their capital commitments are sufficient and is a strategy of originate to distribute going to find stronger internal support?

    Subscription finance in particular is a very strong credit and many institutions (outside of banks) are clearly keen to get access to those assets. Is the growth of the TRS an indication of the increasing sophistication with which banks are structuring internally to provide asset risk to more counterparties and release reliance upon their own capital?

    An originate to distribute model with lower hold levels for the arranging institution, always drives new issues that the present market may not yet be fully attuned to. Will rated facilities make it easier for new entrants to the market and/or the trading of facilities – what are the implications of this to the funds and the market as a whole?

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    AI – technological change

    And finally, no recent post appears complete without some reference to AI. Do banks and funds see this as a relevant issue in fund financing at presence?

    At a practical level probably not, but no area of finance (or the world?) will be untouched by the ongoing sophistication of AI. The question cannot be "will AI affect fund financing?", but rather "how will AI affect fund financing?".

    Sandboxed AI algorithms tracking investor credit risk are undoubtedly whirling away and the ability of the new breed of Large Language Models (LLM’s) to manipulate, and increasingly access realms of data relating to each investor, will inevitably have some impact. In such a high performing, strong credit market it seems unlikely to have any present noticeable day to day impact, but it will. How will investors utilise this new capability in further tracking and analysing fund portfolios and performance.
    Secondary markets and investor flexibility may be impacted as technology increases the flow of information and the speed with which they can analyse and act upon it – most implications are probably further in the future but when they come, the one thing you can guarantee is that they will arrive quickly and those better prepared will clearly gain advantage.

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    Other news

    Other areas we will be reflecting upon include:

    • The Worst Side letter we have ever reviewed (not really but a hot pot of the type of clauses to cause lenders nightmares - or at least their lawyers!)
    • Fitch ratings and their broad impact upon the market
    • An overview of the secondary funds market
    • The role of ESG.

    As an American banker said to me last week in New York, “well, ESG is dead now isn't it?”. Or a British banker commenting “when the cost of living starts to bite, ESG disappears!". Is this a fair reflection of the market, a short term blip or an underestimation of the broader commitment (some would say necessity) for financiers to do their bit in ESG?

    Lots to talk about - we hope you enjoy the series.

    The information provided is not intended to be a comprehensive review of all developments in the law and practice, or to cover all aspects of those referred to.
    Readers should take legal advice before applying it to specific issues or transactions.


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