Mastering Illiquidity

Name: Mastering Illiquidity | Risk management for portfolios of limited partnership funds
Brand: Wiley
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Risk management for portfolios of limited partnership funds

Meyer Peter Cornelius Christian Diller Didier Guennoc(Autor*in)

Wiley (Verlag)

Erschienen am 18. April 2013

304 Seiten

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Dr PETER CORNELIUS is heading AlpInvest Partners'economic and strategic research. Prior to his current position, hewas the Group Chief Economist of Royal Dutch Shell, chief economistand Director of the World Economic Forum's GlobalCompetitiveness Program, Head of International Economic Research ofDeutsche Bank, a senior economist with the International MonetaryFund, and a staff economist of the German Council of EconomicAdvisors. He is the chairman of EVCA's 'RiskMeasurement Guidelines' working group. He has been an adjunctprofessor at Brandeis University and a Visiting Scholar at HarvardUniversity and has published widely in leading academic and tradejournals and (co)authored several books, including InternationalInvestments in Private Equity (Elsevier/Academic Press). Dr CHRISTIAN DILLER is co-founder of Montana CapitalPartners, focused on secondary liquidity in private equity throughits own innovative investment product, sophisticatedsecuritizations and risk management services for institutionalinvestors. Previously, he was Head of Solutions at Capital Dynamicsleading the structuring and portfolio and risk managementactivities. Christian advised some of the world's largestinvestors on portfolio rebalancing and structuring, cash flowplanning and risk management in private equity. Prior to that, heworked for Allianz Group and Pioneer Investments. Christian is amember of the EVCA's 'Risk MeasurementGuidelines' working group, co-chairman of the'Technical Working Group on Solvency II & IORP' andlecturer at the CIPEI course held by the Oxford Said BusinessSchool. He is author of several articles for practitioners andacademics and holds a Dr. rer. pol. in finance specializing onrisk-/return characteristics of private equity funds. Dr DIDIER GUENNOC is co-founder of LDS Partners,specialised in decision systems, program structuring, corporategovernance and risk management solutions for institutionalinvestors in private equity. He also acts as the secretary of theInternational Private Equity and Venture Capital Valuation Board(IPEV Board). Previously he worked for Origo Management and advisedEVCA, the European Private Equity and Venture Capital Associationon public affairs, statistics and professional standards. Hestarted his career at Xerfi, the leading French market researchcompany. Didier was a member of the advisory board of the Centrefor Entrepreneurial and Financial Studies (TechnischeUniversität München - Germany) and of the privateequity subcommittee of the Chartered Alternative InvestmentAnalyst® Program. Didier holds a PhD in BusinessAdministration from the University Robert Schuman, Strasbourg(France). Dr THOMAS MEYER is co-founder of LDS Partners,specialised in decision systems, program structuring, corporategovernance and risk management solutions for institutionalinvestors in private equity. Previously he was with EVCA, theEuropean Investment Fund and Allianz Asia Pacific. He is a memberof the EVCA's 'Risk Measurement Guidelines'working group and of the Chartered Alternative Investment AnalystAssociation's (CAIA) private equity sub-committee and aShimomura Fellow of the Development Bank of Japan's ResearchInstitute of Capital Formation. Thomas is co-directing theCertificate in Institutional Private Equity Investing (CIPEI)course held by the Oxford Said Business School's PrivateEquity Institute and co-authored several books including Beyondthe J-Curve and J-Curve Exposure.

Inhalt

Intro
Mastering Illiquidity: Risk Management for Portfolios of Limited Partnership Funds
Contents
Foreword
Acknowledgements
1 Introduction
1.1 Alternative investing and the need to upgrade risk management systems
1.2 Scope of the book
1.3 Organization of the book
1.3.1 Illiquid investments as an asset class
1.3.2 Risk measurement and modelling
1.3.3 Risk management and its governance
PART I ILLIQUID INVESTMENTS AS AN ASSET CLASS
2 Illiquid Assets, Market Size and the Investor Base
2.1 Defining illiquid assets
2.2 Market size
2.3 The investor base
2.3.1 Current investors in illiquid assets and their exposure
2.3.2 Recent trends
2.4 Conclusions
3 Prudent Investing and Alternative Assets
3.1 Historical background
3.1.1 The importance of asset protection
3.1.2 The prudent man rule
3.1.3 The impact of modern portfolio theory
3.2 Prudent investor rule
3.2.1 Main differences
3.2.2 Importance of investment process
3.3 The OECD guidelines on pension fund asset management
3.4 Prudence and uncertainty
3.4.1 May prudence lead to herding?
3.4.2 May prudence lead to a bias against uncertainty?
3.4.3 Process as a benchmark for prudence?
3.4.4 Size matters
3.5 Conclusion
4 Investing in Illiquid Assets through Limited Partnership Funds
4.1 Limited partnership funds
4.1.1 Basic setup
4.1.2 The limited partnership structure
4.1.3 Is "defaulting" an option for limited partners?
4.2 Limited partnerships as structures to address uncertainty and ensure control
4.2.1 Addressing uncertainty
4.2.2 Control from the limited partner perspective
4.3 The limited partnership fund's illiquidity
4.3.1 Illiquidity as the source of the expected upside
4.3.2 The market for lemons
4.3.3 Contractual illiquidity
4.3.4 Inability to value properly
4.3.5 Endowment effect
4.4 Criticisms of the limited partnership structure
4.5 Competing approaches to investing in private equity and real assets
4.5.1 Listed vehicles
4.5.2 Direct investments
4.5.3 Deal-by-deal
4.5.4 Co-investments
4.6 A time-proven structure
4.7 Conclusion
5 Returns, Risk Premiums and Risk Factor Allocation
5.1 Returns and risk in private equity
5.1.1 Comparing private equity with public equity returns
5.1.2 Market risk and the CAPM
5.1.3 Stale pricing and the optimal allocation to private equity
5.1.4 Informed judgments and ad hoc adjustments to the mean-variance framework
5.1.5 Extensions of the CAPM and liquidity risk
5.1.6 Liability-driven investing and risk factor allocation
5.2 Conclusions
6 The Secondary Market
6.1 The structure of the secondary market
6.1.1 Sellers and their motivations to sell
6.1.2 Buyers and their motivations to buy
6.1.3 Intermediation in the secondary market
6.2 Market size
6.2.1 Transaction volume
6.2.2 Fundraising
6.3 Price formation and returns
6.3.1 Pricing secondary transactions
6.3.2 Returns from secondary investments
6.4 Conclusions
PART II RISK MEASUREMENT AND MODELLING
7 Illiquid Assets and Risk
7.1 Risk, uncertainty and their relationship with returns
7.1.1 Risk and uncertainty
7.1.2 How objective are probabilities anyway?
7.1.3 How useful are benchmark approximations?
7.1.4 Subjective probabilities and emerging assets
7.2 Risk management, due diligence and monitoring
7.2.1 Hedging and financial vs. non-financial risks
7.2.2 Distinguishing risk management and due diligence
7.3 Conclusions
8 Limited Partnership Fund Exposure to Financial Risks
8.1 Exposure and risk components
8.1.1 Defining exposure and identifying financial risks
8.1.2 Capital risk
8.1.3 Liquidity risk
8.1.4 Market risk and illiquidity
8.2 Funding test
8.3 Cross-border transactions and foreign exchange risk
8.3.1 Limited partner exposure to foreign exchange risk
8.3.2 Dimensions of foreign exchange risk
8.3.3 Impact on fund returns
8.3.4 Hedging against foreign exchange risk?
8.3.5 Foreign exchange exposure as a potential portfolio diversifier
8.4 Conclusions
9 Value-at-Risk
9.1 Definition
9.2 Value-at-risk based on NAV time series
9.2.1 Calculation
9.2.2 Problems and limitations
9.3 Cash flow volatility-based value-at-risk
9.3.1 Time series calculation
9.3.2 Fund growth calculation
9.3.3 Underlying data
9.4 Diversification
9.5 Factoring in opportunity costs
9.6 Cash-flow-at-risk
9.7 Conclusions
10 The Impact of Undrawn Commitments
10.1 Do overcommitments represent leverage?
10.2 How should undrawn commitments be valued?
10.3 A possible way forward
10.3.1 Reconciling fund valuations with accounting view
10.3.2 Modelling undrawn commitments as debt
10.3.3 The "virtual fund" as a basis for valuations
10.4 Conclusions
11 Cash Flow Modelling
11.1 Projections and forecasts
11.2 What is a model?
11.2.1 Model requirements
11.2.2 Model classification
11.3 Non-probabilistic models
11.3.1 Characteristics of the Yale model
11.3.2 Extensions of the Yale model
11.3.3 Limitations of the Yale model
11.4 Probabilistic models
11.4.1 Cash flow libraries
11.4.2 Projecting a fund's lifetime
11.4.3 Scaling operations
11.5 Scenarios
11.6 Blending of projections generated by various models
11.7 Stress testing
11.7.1 Accelerated contributions
11.7.2 Decelerated distributions
11.7.3 Increasing volatility
11.8 Back-testing
11.9 Conclusions
12 Distribution Waterfall
12.1 Importance as incentive
12.1.1 Waterfall components
12.1.2 Profit and loss
12.1.3 Distribution provisions
12.1.4 Deal-by-deal vs. aggregated returns
12.2 Fund hurdles
12.2.1 Hurdle definitions
12.2.2 Option character and screening of fund managers
12.3 Basic waterfall structure
12.3.1 Soft hurdle
12.4 Examples for carried interest calculation
12.4.1 Soft hurdle for compounded interest-based carried interest allocation
12.4.2 Hard hurdle for compounded interest-based carried interest allocation
12.4.3 Soft hurdle for multiple-based carried interest allocation
12.4.4 Hard hurdle for multiple-based carried interest allocation
12.5 Conclusions
13 Modelling Qualitative Data
13.1 Quantitative vs. qualitative approaches
13.1.1 Relevance of qualitative approaches
13.1.2 Determining classifications
13.2 Fund rating/grading
13.2.1 Academic work on fund rating
13.2.2 Techniques
13.2.3 Practical considerations
13.3 Approaches to fund ratings
13.3.1 Rating by external agencies
13.3.2 Internal fund assessment approaches
13.4 Use of rating/grading as input for models
13.4.1 Assessing downside risk
13.4.2 Assessing upside potential
13.4.3 Is success repeatable?
13.5 Assessing the degree of similarity with comparable funds
13.5.1 The AMH framework
13.5.2 Strategic groups in alternative assets
13.5.3 Linking grading to quantification
13.6 Conclusions
14 Translating Fund Grades into Quantification
14.1 Expected performance grades
14.1.1 Determine quantitative score
14.1.2 Determine qualitative score
14.1.3 Combine the two scores, review and adjust
14.2 Linking grades with quantifications
14.2.1 Estimate likely TVPIs
14.2.2 Practical considerations
14.3 Operational status grades
14.4 Conclusions
PART III RISK MANAGEMENT AND ITS GOVERNANCE
15 Securitization
15.1 Definition of securitization
15.1.1 Size, quality and maturity
15.1.2 Treatment of other types of assets
15.2 Financial structure
15.2.1 Senior notes of a securitization
15.2.2 Junior notes/mezzanine tranche of a securitization
15.2.3 Equity of a securitization
15.3 Risk modelling and rating of senior notes
15.3.1 Payment waterfall
15.3.2 Modelling of default risk and rating on notes
15.4 Transformation of non-tradable risk factors into tradable financial securities
15.4.1 CFOs as good example for risk and liquidity management practices
15.4.2 Risk of coupon bonds as one part of the risk of illiquid asset classes
15.4.3 Market risk as second part of the risk of illiquid asset classes
15.5 Conclusions
16 Role of the Risk Manager
16.1 Setting the risk management agenda
16.1.1 What risk taking is rewarded?
16.1.2 Risk management: financial risk, operational risk or compliance?
16.1.3 A gap of perceptions?
16.2 Risk management as part of a firm's corporate governance
16.2.1 "Democratic" approach
16.2.2 "Hierarchic" approach
16.3 Built-in tensions
16.3.1 Risk managers as "goal keepers"
16.3.2 Different perspectives - internal vs. external
16.3.3 Analysing and modelling risks
16.3.4 Remuneration
16.4 Conclusions
17 Risk Management Policy
17.1 Rules or principles?
17.1.1 "Trust me - I know what I'm doing"
17.1.2 "Trust but verify"
17.2 Risk management policy context
17.2.1 Investment strategy
17.2.2 Business plan
17.2.3 Organizational setting
17.2.4 System environment
17.3 Developing a risk management policy
17.3.1 Design considerations
17.3.2 Risk limits
17.4 Conclusions
References
Abbreviations
Index

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