Details

Mastering Illiquidity


Mastering Illiquidity

Risk management for portfolios of limited partnership funds
The Wiley Finance Series 1. Aufl.

von: Thomas Meyer, Peter Cornelius, Christian Diller, Didier Guennoc

53,99 €

Verlag: Wiley
Format: EPUB
Veröffentl.: 18.04.2013
ISBN/EAN: 9781119952817
Sprache: englisch
Anzahl Seiten: 304

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Beschreibungen

<b>Arms investors with powerful new tools for measuring and managing the risks associated with the various illiquid asset classes</b> <p>With risk-free interest rates and risk premiums at record lows, many investors are turning to illiquid assets, such as real estate, private equity, infrastructure and timber, in search of superior returns and greater portfolio diversity. But as many analysts, investors and wealth managers are discovering, such investments bring with them a unique set of risks that cannot be measured by standard asset allocation models. Written by a dream team of globally renowned experts in the field, this book provides a clear, accessible overview of illiquid fund investments, focusing on what the main risks of these asset classes are and how to measure those risks in today's regulatory environment.</p> <ul> <li>Provides solutions for institutional investors in need of guidance in today's regulatory environment</li> <li>Offers detailed descriptions of risk measurement in illiquid asset classes, illustrated with real life case studies</li> <li>Helps you to develop reliable risk management tools while complying with the regulations designed to contain the individual and systemic risks arising from illiquid investments</li> <li>Features real-life case studies that capture an array of risk management scenarios you are likely to encounter</li> </ul>
<p>Foreword xi</p> <p>Acknowledgements xiv</p> <p><b>1 Introduction 1</b></p> <p>1.1 Alternative investing and the need to upgrade risk management systems 1</p> <p>1.2 Scope of the book 4</p> <p>1.3 Organization of the book 6</p> <p>1.3.1 Illiquid investments as an asset class 6</p> <p>1.3.2 Risk measurement and modelling 8</p> <p>1.3.3 Risk management and its governance 12</p> <p><b>Part I Illiquid Investments as An Asset Class</b></p> <p><b>2 Illiquid Assets, Market Size and the Investor Base 17</b></p> <p>2.1 Defining illiquid assets 17</p> <p>2.2 Market size 20</p> <p>2.3 The investor base 23</p> <p>2.3.1 Current investors in illiquid assets and their exposure 23</p> <p>2.3.2 Recent trends 26</p> <p>2.4 Conclusions 32</p> <p><b>3 Prudent Investing and Alternative Assets 33</b></p> <p>3.1 Historical background 34</p> <p>3.1.1 The importance of asset protection 34</p> <p>3.1.2 The prudent man rule 34</p> <p>3.1.3 The impact of modern portfolio theory 35</p> <p>3.2 Prudent investor rule 36</p> <p>3.2.1 Main differences 36</p> <p>3.2.2 Importance of investment process 37</p> <p>3.3 The OECD guidelines on pension fund asset management 38</p> <p>3.4 Prudence and uncertainty 38</p> <p>3.4.1 May prudence lead to herding? 39</p> <p>3.4.2 May prudence lead to a bias against uncertainty? 39</p> <p>3.4.3 Process as a benchmark for prudence? 40</p> <p>3.4.4 Size matters 40</p> <p>3.5 Conclusion 41</p> <p><b>4 Investing in Illiquid Assets through Limited Partnership Funds 43</b></p> <p>4.1 Limited partnership funds 43</p> <p>4.1.1 Basic setup 43</p> <p>4.1.2 The limited partnership structure 45</p> <p>4.1.3 Is “defaulting” an option for limited partners? 47</p> <p>4.2 Limited partnerships as structures to address uncertainty and ensure control 47</p> <p>4.2.1 Addressing uncertainty 48</p> <p>4.2.2 Control from the limited partner perspective 48</p> <p>4.3 The limited partnership fund’s illiquidity 49</p> <p>4.3.1 Illiquidity as the source of the expected upside 49</p> <p>4.3.2 The market for lemons 50</p> <p>4.3.3 Contractual illiquidity 51</p> <p>4.3.4 Inability to value properly 51</p> <p>4.3.5 Endowment effect 51</p> <p>4.4 Criticisms of the limited partnership structure 52</p> <p>4.5 Competing approaches to investing in private equity and real assets 52</p> <p>4.5.1 Listed vehicles 53</p> <p>4.5.2 Direct investments 53</p> <p>4.5.3 Deal-by-deal 54</p> <p>4.5.4 Co-investments 54</p> <p>4.6 A time-proven structure 55</p> <p>4.7 Conclusion 57</p> <p><b>5 Returns, Risk Premiums and Risk Factor Allocation 59</b></p> <p>5.1 Returns and risk in private equity 59</p> <p>5.1.1 Comparing private equity with public equity returns 60</p> <p>5.1.2 Market risk and the CAPM 64</p> <p>5.1.3 Stale pricing and the optimal allocation to private equity 67</p> <p>5.1.4 Informed judgments and ad hoc adjustments to the mean–variance framework 68</p> <p>5.1.5 Extensions of the CAPM and liquidity risk 69</p> <p>5.1.6 Liability-driven investing and risk factor allocation 70</p> <p>5.2 Conclusions 73</p> <p><b>6 The Secondary Market 75</b></p> <p>6.1 The structure of the secondary market 76</p> <p>6.1.1 Sellers and their motivations to sell 76</p> <p>6.1.2 Buyers and their motivations to buy 79</p> <p>6.1.3 Intermediation in the secondary market 82</p> <p>6.2 Market size 83</p> <p>6.2.1 Transaction volume 83</p> <p>6.2.2 Fundraising 86</p> <p>6.3 Price formation and returns 87</p> <p>6.3.1 Pricing secondary transactions 87</p> <p>6.3.2 Returns from secondary investments 90</p> <p>6.4 Conclusions 93</p> <p><b>Part II Risk Measurement and Modelling</b></p> <p><b>7 Illiquid Assets and Risk 97</b></p> <p>7.1 Risk, uncertainty and their relationship with returns 98</p> <p>7.1.1 Risk and uncertainty 98</p> <p>7.1.2 How objective are probabilities anyway? 99</p> <p>7.1.3 How useful are benchmark approximations? 100</p> <p>7.1.4 Subjective probabilities and emerging assets 101</p> <p>7.2 Risk management, due diligence and monitoring 102</p> <p>7.2.1 Hedging and financial vs. non-financial risks 102</p> <p>7.2.2 Distinguishing risk management and due diligence 103</p> <p>7.3 Conclusions 105</p> <p><b>8 Limited Partnership Fund Exposure to Financial Risks 107</b></p> <p>8.1 Exposure and risk components 108</p> <p>8.1.1 Defining exposure and identifying financial risks 108</p> <p>8.1.2 Capital risk 110</p> <p>8.1.3 Liquidity risk 111</p> <p>8.1.4 Market risk and illiquidity 112</p> <p>8.2 Funding test 113</p> <p>8.3 Cross-border transactions and foreign exchange risk 117</p> <p>8.3.1 Limited partner exposure to foreign exchange risk 117</p> <p>8.3.2 Dimensions of foreign exchange risk 118</p> <p>8.3.3 Impact on fund returns 119</p> <p>8.3.4 Hedging against foreign exchange risk? 120</p> <p>8.3.5 Foreign exchange exposure as a potential portfolio diversifier 120</p> <p>8.4 Conclusions 121</p> <p><b>9 Value-at-Risk 123</b></p> <p>9.1 Definition 123</p> <p>9.2 Value-at-risk based on NAV time series 124</p> <p>9.2.1 Calculation 125</p> <p>9.2.2 Problems and limitations 127</p> <p>9.3 Cash flow volatility-based value-at-risk 129</p> <p>9.3.1 Time series calculation 131</p> <p>9.3.2 Fund growth calculation 133</p> <p>9.3.3 Underlying data 135</p> <p>9.4 Diversification 136</p> <p>9.5 Factoring in opportunity costs 141</p> <p>9.6 Cash-flow-at-risk 143</p> <p>9.7 Conclusions 144</p> <p><b>10 The Impact of Undrawn Commitments 149</b></p> <p>10.1 Do overcommitments represent leverage? 150</p> <p>10.2 How should undrawn commitments be valued? 151</p> <p>10.3 A possible way forward 153</p> <p>10.3.1 Reconciling fund valuations with accounting view 153</p> <p>10.3.2 Modelling undrawn commitments as debt 154</p> <p>10.3.3 The “virtual fund” as a basis for valuations 155</p> <p>10.4 Conclusions 159</p> <p><b>11 Cash Flow Modelling 161</b></p> <p>11.1 Projections and forecasts 162</p> <p>11.2 What is a model? 163</p> <p>11.2.1 Model requirements 164</p> <p>11.2.2 Model classification 164</p> <p>11.3 Non-probabilistic models 167</p> <p>11.3.1 Characteristics of the Yale model 168</p> <p>11.3.2 Extensions of the Yale model 169</p> <p>11.3.3 Limitations of the Yale model 171</p> <p>11.4 Probabilistic models 171</p> <p>11.4.1 Cash flow libraries 172</p> <p>11.4.2 Projecting a fund’s lifetime 173</p> <p>11.4.3 Scaling operations 176</p> <p>11.5 Scenarios 178</p> <p>11.6 Blending of projections generated by various models 179</p> <p>11.7 Stress testing 180</p> <p>11.7.1 Accelerated contributions 181</p> <p>11.7.2 Decelerated distributions 182</p> <p>11.7.3 Increasing volatility 183</p> <p>11.8 Back-testing 184</p> <p>11.9 Conclusions 187</p> <p><b>12 Distribution Waterfall 189</b></p> <p>12.1 Importance as incentive 190</p> <p>12.1.1 Waterfall components 190</p> <p>12.1.2 Profit and loss 191</p> <p>12.1.3 Distribution provisions 191</p> <p>12.1.4 Deal-by-deal vs. aggregated returns 191</p> <p>12.2 Fund hurdles 191</p> <p>12.2.1 Hurdle definitions 192</p> <p>12.2.2 Option character and screening of fund managers 192</p> <p>12.3 Basic waterfall structure 193</p> <p>12.3.1 Soft hurdle 193</p> <p>12.4 Examples for carried interest calculation 195</p> <p>12.4.1 Soft hurdle for compounded interest-based carried interest allocation 196</p> <p>12.4.2 Hard hurdle for compounded interest-based carried interest allocation 198</p> <p>12.4.3 Soft hurdle for multiple-based carried interest allocation 200</p> <p>12.4.4 Hard hurdle for multiple-based carried interest allocation 200</p> <p>12.5 Conclusions 202</p> <p><b>13 Modelling Qualitative Data 207</b></p> <p>13.1 Quantitative vs. qualitative approaches 207</p> <p>13.1.1 Relevance of qualitative approaches 207</p> <p>13.1.2 Determining classifications 208</p> <p>13.2 Fund rating/grading 208</p> <p>13.2.1 Academic work on fund rating 209</p> <p>13.2.2 Techniques 209</p> <p>13.2.3 Practical considerations 210</p> <p>13.3 Approaches to fund ratings 211</p> <p>13.3.1 Rating by external agencies 211                   </p> <p>13.3.2 Internal fund assessment approaches 215</p> <p>13.4 Use of rating/grading as input for models 216</p> <p>13.4.1 Assessing downside risk 216</p> <p>13.4.2 Assessing upside potential 217</p> <p>13.4.3 Is success repeatable? 217</p> <p>13.5 Assessing the degree of similarity with comparable funds 218</p> <p>13.5.1 The AMH framework 219</p> <p>13.5.2 Strategic groups in alternative assets 219</p> <p>13.5.3 Linking grading to quantification 220</p> <p>13.6 Conclusions 220</p> <p><b>14 Translating Fund Grades into Quantification 221</b></p> <p>14.1 Expected performance grades 221</p> <p>14.1.1 Determine quantitative score 222</p> <p>14.1.2 Determine qualitative score 223</p> <p>14.1.3 Combine the two scores, review and adjust 224</p> <p>14.2 Linking grades with quantifications 225</p> <p>14.2.1 Estimate likely TVPIs 225</p> <p>14.2.2 Practical considerations 228</p> <p>14.3 Operational status grades 228</p> <p>14.4 Conclusions 229</p> <p><b>Part III Risk Management and Its Governance</b></p> <p><b>15 Securitization 233</b></p> <p>15.1 Definition of securitization 233</p> <p>15.1.1 Size, quality and maturity 236</p> <p>15.1.2 Treatment of other types of assets 237</p> <p>15.2 Financial structure 237</p> <p>15.2.1 Senior notes of a securitization 237</p> <p>15.2.2 Junior notes/mezzanine tranche of a securitization 238</p> <p>15.2.3 Equity of a securitization 238</p> <p>15.3 Risk modelling and rating of senior notes 239</p> <p>15.3.1 Payment waterfall 239</p> <p>15.3.2 Modelling of default risk and rating on notes 240</p> <p>15.4 Transformation of non-tradable risk factors into tradable financial securities 244</p> <p>15.4.1 CFOs as good example for risk and liquidity management practices 245</p> <p>15.4.2 Risk of coupon bonds as one part of the risk of illiquid asset classes 246</p> <p>15.4.3 Market risk as second part of the risk of illiquid asset classes 247</p> <p>15.5 Conclusions 248</p> <p><b>16 Role of the Risk Manager 249</b></p> <p>16.1 Setting the risk management agenda 249</p> <p>16.1.1 What risk taking is rewarded? 250</p> <p>16.1.2 Risk management: financial risk, operational risk or compliance? 250</p> <p>16.1.3 A gap of perceptions? 251</p> <p>16.2 Risk management as part of a firm’s corporate governance 251</p> <p>16.2.1 “Democratic” approach 251</p> <p>16.2.2 “Hierarchic” approach 252</p> <p>16.3 Built-in tensions 253</p> <p>16.3.1 Risk managers as “goal keepers” 253</p> <p>16.3.2 Different perspectives – internal vs. external 253</p> <p>16.3.3 Analysing and modelling risks 253</p> <p>16.3.4 Remuneration 254</p> <p>16.4 Conclusions 255</p> <p><b>17 Risk Management Policy 257</b></p> <p>17.1 Rules or principles? 258</p> <p>17.1.1 “Trust me – I know what I’m doing” 258</p> <p>17.1.2 “Trust but verify” 258</p> <p>17.2 Risk management policy context 258</p> <p>17.2.1 Investment strategy 259</p> <p>17.2.2 Business plan 260</p> <p>17.2.3 Organizational setting 261</p> <p>17.2.4 System environment 261</p> <p>17.3 Developing a risk management policy 262</p> <p>17.3.1 Design considerations 262</p> <p>17.3.2 Risk limits 264</p> <p>17.4 Conclusions 264</p> <p>References 267</p> <p>Abbreviations 277</p> <p>Index 279</p>
<p><b>Dr PETER CORNELIUS</b> is heading AlpInvest Partners’ economic and strategic research. Prior to his current position, he was the Group Chief Economist of Royal Dutch Shell, chief economist and Director of the World Economic Forum’s Global Competitiveness Program, Head of International Economic Research of Deutsche Bank, a senior economist with the International Monetary Fund, and a staff economist of the German Council of Economic Advisors. He is the chairman of EVCA’s ‘Risk Measurement Guidelines’ working group. He has been an adjunct professor at Brandeis University and a Visiting Scholar at Harvard University and has published widely in leading academic and trade journals and (co)authored several books, including International Investments in Private Equity (Elsevier/Academic Press).</p> <p><b>Dr CHRISTIAN DILLER</b> is co-founder of Montana Capital Partners, focused on secondary liquidity in private equity through its own innovative investment product, sophisticated securitizations and risk management services for institutional investors. Previously, he was Head of Solutions at Capital Dynamics leading the structuring and portfolio and risk management activities. Christian advised some of the world’s largest investors on portfolio rebalancing and structuring, cash flow planning and risk management in private equity. Prior to that, he worked for Allianz Group and Pioneer Investments. Christian is a member of the EVCA’s ‘Risk Measurement Guidelines’ working group, co-chairman of the ‘Technical Working Group on Solvency II & IORP’ and lecturer at the CIPEI course held by the Oxford Said Business School. He is author of several articles for practitioners and academics and holds a Dr. rer. pol. in finance specializing on risk-/return characteristics of private equity funds.</p> <p><b>Dr DIDIER GUENNOC</b> is co-founder of LDS Partners, specialised in decision systems, program structuring, corporate governance and risk management solutions for institutional investors in private equity. He also acts as the secretary of the International Private Equity and Venture Capital Valuation Board (IPEV Board). Previously he worked for Origo Management and advised EVCA, the European Private Equity and Venture Capital Association on public affairs, statistics and professional standards. He started his career at Xerfi, the leading French market research company. Didier was a member of the advisory board of the Centre for Entrepreneurial and Financial Studies (Technische Universität München – Germany) and of the private equity subcommittee of the Chartered Alternative Investment Analyst® Program. Didier holds a PhD in Business Administration from the University Robert Schuman, Strasbourg (France).</p> <p><b>Dr THOMAS MEYER</b> is co-founder of LDS Partners, specialised in decision systems, program structuring, corporate governance and risk management solutions for institutional investors in private equity. Previously he was with EVCA, the European Investment Fund and Allianz Asia Pacific. He is a member of the EVCA’s ‘Risk Measurement Guidelines’ working group and of the Chartered Alternative Investment Analyst Association's (CAIA©) private equity sub-committee and a Shimomura Fellow of the Development Bank of Japan’s Research Institute of Capital Formation. Thomas is co-directing the Certificate in Institutional Private Equity Investing (CIPEI) course held by the Oxford Said Business School’s Private Equity Institute and co-authored several books including <i>Beyond the J-Curve</i> and <i>J-Curve Exposure</i>.</p>
<p>Allocations to illiquid investments have grown substantially in recent years as investments in asset classes such as private equity, real estate, infrastructure or timber, are expected to generate superior returns and help investors diversify their portfolios.  Their unique characteristics however, require specific tools to measure and manage the risk associated with such investments.</p> <p>This book focuses primarily on the illiquidity risk premium that structurally illiquid asset classes may offer. In contrast to asset classes that may become illiquid thanks to financial turmoil and heightened risk aversion, investors in structurally illiquid asset classes are aware ex-ante of the risk they take. It is precisely this risk, and more specifically the associated risk premium, that attracts investors to these asset classes. Not all investors are able to harvest this risk premium, however. As a matter of principle, only long term investors can, whose liability profile allows them to lock capital in for a prolonged period of time. Harvesting the illiquidity risk premium requires specific risk management techniques, and these are the subject of this book.</p> <p><i>Mastering Illiquidity: Risk Management for Portfolios of Limited Partnership Funds</i> provides a clear and accessible overview of the particularities of illiquid fund investments, what the main risks of these asset classes are and how risks are measured in the new regulatory environment. It provides solutions for institutional investors who are searching for guidance in the new era of regulation and offers detailed descriptions of risk measurement in illiquid asset classes which are illustrated with real life case studies. This book helps readers to develop appropriate risk management tools while complying with new regulations which have been put in place to contain individual as well as systemic risks arising from illiquid investments.</p>

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