The financial markets and global economy are facing record high inflation rates, cost of funding issues, limited liquidity, and a host of other factors that generate uncertainty. As a result, the fund finance market continues to evolve and to accelerate the development of its new products. Some of the trends we expect to see this year include:
Environmental, Social and Governance (“ESG”) and Sustainability-Linked Lending (“SLL”)
– ESG and SLL have become an important part of fund finance, as a significant number of lenders, fund managers and investors are aiming to be at the forefront of these areas through their financing products. Key drivers of this trend are new regulations that have been introduced in some European countries and in the United States. In August of 2022, President Biden signed into law the Inflation Reduction Act (IRA), which incentivizes ESG investing and promotes visibility and support for the next 15-20 years. In practice, we have seen the increased inclusion of ESG and SLL provisions in funds’ limited partnership agreements and investors’ side letters. While to date, generally only a marginal difference in rate has been available to sustainability-linked loans, this may be changing in the near future.
Hybrid, Net Asset Value (“NAV”), GP and Management FacilitiesForecasts from 17Capital show that NAV finance is expected to grow from USD$100 billion today to USD$700 billion by 2030. Alternatively, the fund may enter into a hybrid facility, where both uncalled capital commitments and asset value of its investments are taken into account to determine the borrowing base. As a result of the COVID pandemic, funds may hold on to their strong performing assets for longer periods, which is leading to increased implementation of hybrid and NAV facilities. Finally, in a time of limited liquidity, general partners may need to access debt to support their own commitments to the fund, and managers may need financial support for their working capital needs. As such, we expect to see increased number of GP and management lines of credit provided by lenders to enhance relationships with their clients.
– Although subscription lines have historically been the most used in this fund finance space, the complexity and innovation of the financing structures of hybrid, NAV, GP and management facilities is constantly evolving, and will continue to do so. Subscription line availability is generally calculated based on a fund’s undrawn capital commitments and the creditworthiness of its investors. Subscription facilities allow the fund to access funding during its investment period as they are supported by a pledge of the right to call capital from its investors. At a later stage of the fund’s life, when the fund has made capital calls for a significant amount of its capital commitments and has invested in assets, it may consider shifting to a NAV facility, which takes into account the fund’s assets to determine the borrowing base.
Participation of NonBank Lenders – The involvement of non-lender banks such as issuers, debt funds, pension funds and other institutional asset managers has breached the supply-demand gap by providing capital that would usually come from the traditional bank market. As a result of bank and non-bank lenders working together to provide liquidity, we expect to see a more active fund finance syndication market.