As we bid farewell to 2023, it's crucial to reflect on the lessons learned and challenges faced within the realm of alternative asset management. These insights not only shape our understanding but also equip us for the strategic road ahead in 2024. Here are ten valuable lessons gleaned from the past year:
1. Counterparty Diversification in Treasury Teams:
In the wake of rapid bank failures like Silicon Valley Bank and Signature Bank, counterparty diversification has emerged as a critical practice for treasury teams. Rigorous due diligence on counterparts and robust hedging policies are now imperative to mitigate risks.
2. FX Counterparty Panel Structuring:
To enhance flexibility and gain a comprehensive market view, managers are structuring FX counterparty panels with a mix of banks and non-bank providers. This strategy ensures fair and competitive terms, especially in the aftermath of defaults ranging from multinational giants to local regional banks.
3. Balancing Risks in Closed-End Funds:
Closed-end funds face the challenge of managing liquidity, counterparty, and credit risks. Choosing between collateralized terms and margin calls requires a delicate balance, with many funds prioritizing liquidity constraints in volatile markets.
4. Limited OTM Scenarios Amid Funding Cost Increases:
With rising capital costs, managers are opting for strategies with limited loss profiles to minimize funding needs. This approach prevents collateral requirements, avoiding performance drag, and allows managers to participate in positive market swings.
5. Advantages of Fund-Level Hedging:
Establishing a robust fund-level hedging program provides a competitive edge in fundraising, particularly in distressed market scenarios. Investors increasingly recognize the importance of managing FX and interest rate risks for long-term risk-adjusted returns.
6. Rise of Private Credit & Special Opportunities:
In the current high-interest rate environment, private credit and special opportunities have gained traction. Innovative credit structures, especially in Emerging Markets, attract significant capital, providing diverse funding sources across currencies.
7. Market's Decision: Matterhorn Over Table Mountain:
With central banks oscillating between fighting inflation and overtightening, the market has favored higher interest rates. As 2023 concludes with declining rates, companies and private equity sponsors are seizing the opportunity to hedge their interest expenses for 2024 and beyond.
8. Last Man Standing - Japan:
Contrary to expectations, Japan remains the sole major economy with zero interest rates. Private equity managers are capitalizing on this by swapping portfolio company debt to Yen, saving substantially on interest expenses annually.
9. Cross-Border Fundraising in a Volatile Currency Environment:
The desire to diversify GP selection into emerging markets has led to increased currency risk. Foreign share classes have become instrumental in facilitating cross-border fundraising, allowing GPs to differentiate themselves in a volatile currency landscape.
10. Deal-Contingent Hedging Challenges:
While deal-contingent hedges are explored to mitigate cross-border M&A risks, challenges persist. Limited bank interest, transparency issues in pricing, and legal/regulatory complexities extend the implementation process, making it a cumbersome endeavor for private equity managers.
As we look forward to 2024, these ten lessons serve as a compass, guiding alternative asset managers in crafting informed discussions and robust strategies for the evolving financial landscape. Embracing these insights will undoubtedly contribute to a resilient and successful journey in the coming year.