Marcus Emadi | Director at Turning Point Capital
CONTENTS
What is Fund Finance?
Fund finance is any type of financing that revolves around a fund structure, as opposed to the traditional asset-backed structure seen in other financing markets. While this sounds straightforward, the fund finance market is often shrouded in ambiguity. Key questions that arise are: Who’s using it? How is it being used? And most importantly, why is it gaining attention now? The LMA is focusing its efforts on bringing greater transparency and understanding to this often-misunderstood sector.
The Trillion Dollar Question
The fund finance market is often described as a trillion-dollar market, and while the exact figures remain elusive due to its private nature, its rapid growth is undeniable. Some estimates suggest the market size is $660 billion, but the subline market alone is worth around $750 billion, indicating a discrepancy in the data. What is clear, however, is that the market is vast and continuing to grow, as affirmed by the 79% of the audience at the LMA’s conference who agreed on its substantial potential.
The LMA is working to provide more transparency around the market’s size, subsets, and stakeholders to help illuminate this complex area.
Why the Negative Press?
Despite its long history dating back to the early 2000s, fund finance has recently found itself under the spotlight. Media portrayals have fueled negative sentiment, particularly surrounding the use of NAV (Net Asset Value) facilities, often linked to distributions to limited partners (LPs). However, such use remains relatively rare and does not reflect the full scope of the market. This increased media attention is driven partly by the private nature of the fund finance market and the lack of available data.
As markets evolve, the application of new financial products will always be met with questions and scrutiny, which is often amplified by headline-driven narratives.
What’s in It for Me?
As awareness of fund finance grows, there’s an increasing desire to understand its motivations. Are general partners (GPs) using NAV to drive growth or simply to benefit themselves? The key question for LPs is to understand why a specific facility is being put in place and how it benefits the fund as a whole.
NAV applications can be defensive—used to protect existing value—or accretive, where the goal is to generate additional growth. In today’s economic climate, sponsors may be holding assets for longer periods and require financing support during the investment phase. Understanding the motivations behind these facilities, coupled with transparency around their application, is vital for both GPs and LPs.
The LMA plays a crucial role here by providing guidance on documentation, especially in areas such as the Limited Partnership Agreement (LPA), ensuring that the terms of financing align with the interests of both parties.
Europe Leads the Way
Europe has become a hotbed for innovation in fund finance, despite its fragmented market across different jurisdictions. While this complexity adds challenges, it also drives competition, which fosters innovation. In fact, many of the core developments in fund finance are happening in Europe, with those innovations flowing into the U.S. market. The LMA’s unique position allows it to support this innovative European landscape and ensure that best practices are shared globally.
What Happens if Things Go Wrong?
One of the key challenges of a private market is understanding the potential impact of a default. To date, only one subscription facility has been enforced, and while the security held up, accessing the necessary information proved difficult. What would happen in the event of a NAV enforcement remains theoretical, but the LMA is keen to facilitate discussions and develop scenarios that help stakeholders navigate these risks.
The Need for Standardisation
A common question raised in the fund finance space is whether there is a need for standard documents. While a one-size-fits-all approach might not work due to the various variables at play, there is consensus on the need for guidelines in specific areas, such as exclusion events, LP/GP communication, and reporting standards.
Due diligence is another area where standardisation could add significant value. By establishing a common language for assessing various types of risk—such as manager risk, fund credit risk, market risk, and legal documentation risk—the LMA can help ensure greater consistency and transparency across the sector.
Where to From Here?
The fund finance market continues to evolve and grow, with increasing interest from investors, sponsors, and other stakeholders. As the sector develops, the LMA is committed to supporting the market by ensuring transparency, efficiency, liquidity, and sustainability. For those interested in shaping the future of fund finance, the LMA offers opportunities to collaborate and contribute to the ongoing development of this fascinating and rapidly growing market. Let’s move forward together.
