Managing Alternative Assets in Turbulent Times

Managing Alternative Assets in Turbulent Times

April 2020

By Alan Flanagan

The escalation of the coronavirus crisis and subsequent shutdown of much of the global economy has had a dramatic impact on many financial markets and asset prices. Alan Flanagan, Global Head of Alternatives, Managing Director, BNY Mellon looks at how increased volatility and economic uncertainty might affect valuation, liquidity and operational issues for various alternative asset classes.


How will valuations change?


All funds have policies that require them to assess valuations, either utilising an internal governance committee or external third party. Non-executive directors have an important role to play in this process, challenging and questioning the investment manager about all aspects of the funds, including valuation, to ensure it fulfils its fiduciary responsibilities. Funds are required to report (usually on a quarterly basis) in each market where a product is available, and as part of this process they are obliged to consider market events and the broader environment to ensure valuations are as accurate as possible. They must also consider IFRS and other accounting implications. Valuations take into account interest rates where relevant – recent cuts in benchmark rates will have a bearing on some debt funds, for instance.


The requirement to report on a quarterly basis is an important characteristic given the current environment, as the quarter closed immediately after steep declines in public markets in March. Reporting usually occurs 30 to 45-days after the quarter end – therefore changes in valuation have yet to be published.


MiFID II requires investment managers to notify clients when the value of their portfolio drops by 10% relative to the value at the beginning of each reporting period and a number of funds may need to do this. However, the MiFID II rule that requires investment managers to notify clients of any subsequent 10% drop has been suspended by the UK’s Financial Conduct Authority until October. Regulators in Luxembourg, Ireland and elsewhere are likely to pursue a similar policy. Under the new interpretation of the rule, managers are only obliged to inform a client of a 10% drop once within a reporting period, provided they continue to give general market updates to clients.


While it is very difficult to accurately gauge changes in valuations across alternative asset funds given that reporting has yet to occur in the private markets space, it is likely that different asset classes will have divergent valuation outcomes. The root cause of changes in valuation is important in this regard. For instance, in the hedge fund sector, funds often hold more liquid assets such as equities. The impact of such assets on a hedge fund’s value is straightforward to calculate and some may be significantly impacted – positively or negatively – by public market movements in March and April.


Similarly, in the private equity market, valuation is often based on a public market multiple. For assets where valuation is calculated in this way, recent market dislocations will have significant and immediate implications. However, in other instances private equity funds may use a discounted cash flow model for valuation purposes. Slower economic activity, and the virtual closure of some sectors such as retail and entertainment, could also have negative implications for valuation. However, for some venture capital funds invested in technology platforms that have benefited from people working at home, there may be a positive impact.


For less liquid alternative asset classes with no standard models, publicly quoted prices or borrower ratings, the repercussions of the volatile market environment and the steep downturn in economic activity, in March and April, is less clear at the current time. This could take many months to be reflected in valuations. For instance, in a private debt fund, a borrower may request an extension of payments because of the need to grant a rent holiday to their tenants in a shopping centre as stores are currently closed.


A key question for valuation in the current circumstances is whether any change in cash flows (or a breach of covenants) is short term and temporary or long term and possibly permanent. The strategy of a fund could be important in this regard. As of mid-April, collection rates remain relatively high across strategies such as commercial and industrial while they are significantly lower for retail. Rental abatement discussions are widespread. While there is much focus on government initiatives aimed at mitigating the impact of COVID-19 and the economic shutdown (such as the Small Business Administration initiative in the US), much of this funding is expected to be aimed at supporting wages rather than landlords.


It is important to note that any technical breach of a covenant (such as loan-to-value ratio) gives the lender the right to take action. But in most circumstances a good relationship between the borrower and lender will result in negotiations rather than enforcement of covenants (although this may depend on the extent to which any structure is leveraged and the broader risks involved). In the private debt space therefore, any adjustment in valuation may be significantly slower than in assets with links to public markets: depending on the shape of any economic recovery, and provided repayments continue and there remains sufficient cash on hand, there may be no need to adjust valuation for some assets.


The length of the economic downturn and the nature of recovery – whether a rapid V-shaped recovery following a clear trough, a more gradual U-shaped recovery or a W-shaped recovery, where growth returns in fits and starts – could have a bearing on valuations for less liquid alternative asset classes as it may impact the ability of borrowers to repay debt, for example. Different countries are likely to relax the lockdown in different ways, with consequent implications for economic activity, asset performance and valuation. Currently, there are limited expectations of deal creation during the rest of 2020; the hope is to stabilize assets as economic activity resumes (with a W-shaped recovery seen by many as most likely) while looking to 2021 for recovery.


How will liquidity be impacted?


There are as yet no statistics on outflows from alternative asset funds. Many funds require 30 days (or longer) notice to redeem, so the vast majority of redemptions have yet to take place. However, there is anecdotal evidence of investors seeking to exit investments. Some of these investors may be motivated by a belief that the falls in March and April are just the beginning of a larger correction and a potential global depression. Others, especially those leveraged and holding equities, may face margin calls and therefore be forced sellers (the significant increase in the utilisation of loan facilities to address margin calls has caused some nervousness in industry as it could become problematic if volatility continues). Yet other clients may need to reduce their alternative asset holdings to rebalance their portfolio given steep falls in public markets. It is important to note that there are also buyers in the current market – it is far from broken and the situation is not comparable to 2008.


Nevertheless, a number of opened-ended funds have been forced to gate investors, temporarily blocking withdrawals, to stem redemptions and avoid the need for fire sales (the semantics of gating vary: some funds (notably in the credit market) have suspended redemptions claiming they do not want to be a forced seller in what they describe as a dysfunctional market). Gating is not unusual and has happened on a number of occasions in the past, most recently in response to Brexit in the UK when a number of property funds restricted exits. However, the current environment – with both markets and economies potentially in decline for some time – could prolong gating.


While gating is a recognised feature of funds, it comes with a potentially heavy cost. Although it protects an investment fund in the short term, clients are more likely to leave when the gates are lifted. On some occasions in the past, the longer-term reputational damage of gating has led to the demise of funds.


Closed end private equity funds do not face the same challenges, as redemptions are not allowed within the life of the fund. There has been some speculation that macroeconomic disruption will drive a sharp rise in capital calls in the near term (either to pay down subscription lines of credit or shore up existing investments). This assumption is not universal: a recent study by research firm Preqin and risk management firm FRG said a surge in capital calls is not expected until 2021 ¹. Regardless, managers need to be aware of the risk that LPs may be unwilling, or unable, to fund capital calls and could instead default. One alternative could be for such investors to sell in the secondary market to avoid the reputational damage that comes with a default and recoup at least part of their investment.


The secondary market has matured considerably since the financial crisis, when it was extremely illiquid and usually only used as a last resort. In recent years, volumes have increased as strong private equity vintages (such as 2008 and 2009) have been in high demand; the secondary market has provided liquidity for investors wanting to realise gains or rationalise the number of managers they work with. The crucial question is whether the secondary market will continue to function in this relatively orderly way – at prices that are acceptable to sellers – if the number of sellers increases markedly.

Another related issue is the extent to which managers will allow investors to exit investments, where funds have structures that allow exits (usually relating to a specific proportion of liquidity) at various points (usually after a long lock up period), at the manager’s discretion. This will be the first time these structures have been tested in a major market downturn. Managers may be reluctant to let investors exit – and the terms for funds will be written to make it clear that investors do not have a right to exit. However, managers will need to balance this against maintaining a longer-term relationship with the client: options to leave at the manager’s discretion could ultimately form the basis of a partial negotiated exit.


Volatility and liquidity concerns have prompted some changes in liquidity management across the alternatives asset industry in a ‘flight to safety’. Deleveraging has prompted a significant increase (as much as 120%) in unencumbered money market fund balances and a movement of excess balances away from trading counterparties where the main attraction was yield or operational convenience. Many clients are rotating out of Treasuries to MMFs given the simplicity of liquidity management they offer and likely outperformance in the light of negative Treasury yields. A number of real estate funds have drawn on revolvers to support their liquidity management and anticipated cash burn or are seeking short-duration, funded facilities to build liquidity; many are using MMFs for yield preservation and liquidity, while rotating out of Prime funds due to liquidity issues.


Operational challenges


To varying degrees, alternative asset funds are laggards when it comes to the adoption of digital technologies when compared to mainstream asset class funds. In private markets, administration is likely to be in-house. Partly as a result, and also due to the nature of the assets themselves, paper-based processes are common. In the private equity sector for instance, paper-based documentation (or at best PDF-based) remains standard while in parts of the private debt markets, such as loan trading, the trading process itself is paper-based. Increased trading volumes could make it hard to keep pace with settlement demands.


Hedge funds are usually more advanced in their adoption of digital technologies and automation. All trade electronically but some continue to have paper-based record keeping and investor-facing interaction. However, the vast majority of hedge funds outsource record keeping, net asset value per share calculation, share application and redemption processes, shareholder services and financial reporting to fund administrators, which are more likely to have digital systems.


The experience of March and April could prove to be a boon for fund administrators as the benefits of greater automation and digitisation come to the fore. Similarly, there may be a significant increase in demand for high quality custody services as asset managers seek partners with strong business continuity planning capabilities and robust technological infrastructure. The extreme market volatility prompted by the coronavirus crisis may encourage asset managers to seek a partner that enables them to operate efficiently in volatile markets, continue to meet their regulatory and investor obligations, and gain the visibility and control needed to effectively manage risk.

11/09/12 REPRO FREE: Bank of New York Mellon. Alan Flanagan Picture Jason Clarke Photography

Alan Flanagan

Managing Director, Global Head of Alternatives





The views expressed within this article are those of the authors only and not those of BNY Mellon or any of its subsidiaries or affiliates.


BNY Mellon is the corporate brand of The Bank of New York Mellon Corporation and may be used to reference the corporation as a whole and/or its various subsidiaries generally. This material and any products and services may be issued or provided under various brand names of BNY Mellon in various countries by duly authorized and regulated subsidiaries, affiliates, and joint ventures of BNY Mellon, which may include any of those listed below:


The Bank of New York Mellon, a banking corporation organized pursuant to the laws of the State of New York, whose registered office is at 240 Greenwich St, NY, NY 10286, USA. The Bank of New York Mellon is supervised and regulated by the New York State Department of Financial Services and the US Federal Reserve and is authorized by the Prudential Regulation Authority (PRA).


The Bank of New York Mellon operates in the UK through its London branch (UK companies house numbers FC005522 and BR000818) at One Canada Square, London E14 5AL and is subject to regulation by the Financial Conduct Authority (FCA) at 12 Endeavour Square, London, E20 1JN, UK and limited regulation by the Prudential Regulation Authority at Bank of England, Threadneedle St, London, EC2R 8AH, UK. Details about the extent of our regulation by the Prudential Regulation Authority are available from us on request.


The Bank of New York Mellon SA/NV, a Belgian limited liability company, registered in the RPM Brussels with company number 0806.743.159, whose registered office is at 46 Rue Montoyerstraat, B-1000 Brussels, Belgium, authorized and regulated as a significant credit institution by the European Central Bank (ECB) at Sonnemannstrasse 20, 60314 Frankfurt am Main, Germany, and the National Bank of Belgium (NBB) at Boulevard de Berlaimont/de Berlaimontlaan 14, 1000 Brussels, Belgium, under the Single Supervisory Mechanism and by the Belgian Financial Services and Markets Authority (FSMA) at Rue du Congrès/Congresstraat 12-14, 1000 Brussels, Belgium for conduct of business rules, and is a subsidiary of The Bank of New York Mellon.


The Bank of New York Mellon SA/NV operates in Ireland through its Dublin branch at Riverside II, Sir John Rogerson's Quay Grand Canal Dock, Dublin 2, D02KV60, Ireland and is registered with the Companies Registration Office in Ireland No. 907126 & with VAT No. IE 9578054E. The Bank of New York Mellon SA/NV, Dublin Branch is subject to limited additional regulation by the Central Bank of Ireland at New Wapping Street, North Wall Quay, Dublin 1, D01 F7X3, Ireland for conduct of business rules and registered with the Companies Registration Office in Ireland No. 907126 & with VAT No. IE 9578054E.


The Bank of New York Mellon SA/NV is trading in Germany as The Bank of New York Mellon SA/NV, Asset Servicing, Niederlassung Frankfurt am Main, and has its registered office at MesseTurm, Friedrich-Ebert-Anlage 49, 60327 Frankfurt am Main, Germany. It is subject to limited additional regulation by the Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungsaufsicht, Marie-Curie-Str. 24-28, 60439 Frankfurt, Germany) under registration number 122721.


The Bank of New York Mellon SA/NV operates in the Netherlands through its Amsterdam branch at Strawinskylaan 337, WTC Building, Amsterdam, 1077 XX, the Netherlands. The Bank of New York Mellon SA/NV, Amsterdam Branch is subject to limited additional supervision by the Dutch Central Bank (‘De Nederlandsche Bank’ or ‘DNB’) on integrity issues only (registration number 34363596). DNB holds office at Westeinde 1, 1017 ZN Amsterdam, the Netherlands.


The Bank of New York Mellon SA/NV operates in Luxembourg through its Luxembourg branch at 2-4 rue Eugene Ruppert, Vertigo Building – Polaris, L- 2453, Luxembourg. The Bank of New York Mellon SA/NV, Luxembourg Branch is subject to limited additional regulation by the Commission de Surveillance du Secteur Financier at 283, route d’Arlon, L-1150 Luxembourg for conduct of business rules, and in its role as UCITS/AIF depositary and central administration agent.


The Bank of New York Mellon SA/NV operates in France through its Paris branch at 7 Rue Scribe, Paris, Paris 75009, France. The Bank of New York Mellon SA/NV, Paris Branch is subject to limited additional regulation by Secrétariat Général de l’Autorité de Contrôle Prudentiel at Première Direction du Contrôle de Banques (DCB 1), Service 2, 61, Rue Taitbout, 75436 Paris Cedex 09, France (registration number (SIREN) Nr. 538 228 420 RCS Paris - CIB 13733).


The Bank of New York Mellon SA/NV operates in Italy through its Milan branch at Via Mike Bongiorno no. 13, Diamantino building, 5th floor, Milan, 20124, Italy. The Bank of New York Mellon SA/NV, Milan Branch is subject to limiteed additional regulation by Banca d’Italia - Sede di Milano at Divisione Supervisione Banche, Via Cordusio no. 5, 20123 Milano, Italy (registration number 03351).

The Bank of New York Mellon (International) Limited is registered in England & Wales with Company No. 03236121 with its Registered Office at One Canada Square, London E14 5AL. The Bank of New York Mellon (International) Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. Regulatory information in relation to the above BNY Mellon entities operating out of Europe can be accessed at the following website:


The Bank of New York Mellon has various subsidiaries, affiliates, branches and representative offices in the Asia-Pacific Region which are subject to regulation by the relevant local regulator in that jurisdiction. Details about the extent of our regulation and applicable regulators in the Asia-Pacific Region are available from us on request. Among others, The Bank of New York Mellon, Singapore Branch is subject to regulation by the Monetary Authority of Singapore. The Bank of New York Mellon, Hong Kong Branch (a banking corporation organized and existing under the laws of the State of New York with limited liability) is subject to regulation by the Hong Kong Monetary Authority and the Securities & Futures Commission of Hong Kong. The Bank of New York Mellon, Seoul Branch is subject to regulation by the Financial Services Commission, the Financial Supervisory Service and The Bank of Korea.


Whilst The Bank of New York Mellon (BNY Mellon) is authorised to provide financial services in Australia, it is exempt from the requirement to hold, and does not hold, an Australian financial services license as issued by the Australian Securities and Investments Commission under the Corporations Act 2001 (Cth) in respect of the financial services provided by it to persons in Australia. BNY Mellon is regulated by the New York State Department of Financial Services and the US Federal Reserve under Chapter 2 of the Consolidated Laws, The Banking Law enacted April 16, 1914 in the State of New York, which differs from Australian laws.


The Bank of New York Mellon Securities Company Japan Ltd, subject to supervision by the Financial Services Agency of Japan, acts as intermediary in Japan for The Bank of New York Mellon and its affiliates, with its registered office at Marunouchi Trust Tower Main, 1-8-3 Marunouchi, Chiyoda-ku, Tokyo 100-1005, Japan.


If this material is distributed in, or from, the Dubai International Financial Centre (“DIFC”), it is communicated by The Bank of New York Mellon, DIFC Branch, regulated by the DFSA and located at DIFC, The Gate Precinct Building 5 North, Level 6, Room 601, P.O. Box 506723, Dubai, UAE, on behalf of The Bank of New York Mellon, which is a wholly-owned subsidiary of The Bank of New York Mellon Corporation. This material is intended for Professional Clients and Market Counterparties only and no other person should act upon it.


Past performance is not a guide to future performance of any instrument, transaction or financial structure and a loss of original capital may occur. Calls and communications with BNY Mellon may be recorded, for regulatory and other reasons.

Disclosures in relation to certain other BNY Mellon group entities can be accessed at the following website:


This document and the statements contained herein, are not an offer or solicitation to buy or sell any products (including financial products) or services or to participate in any particular strategy mentioned and should not be construed as such. This material is intended for wholesale/professional clients (or the equivalent only), is not intended for use by retail clients and no other person should act upon it. Persons who do not have professional experience in matters relating to investments should not rely on this material. BNY Mellon will only provide the relevant investment services to investment professionals.


Not all products and services are offered in all countries.


If distributed in the UK, this material is a financial promotion. If distributed in the EU, this material is a marketing communication.


This material, which may be considered advertising, is for general information purposes only and is not intended to provide legal, tax, accounting, investment, financial or other professional advice on any matter. This material does not constitute a recommendation or advice by BNY Mellon of any kind. Use of our products and services is subject to various regulations and regulatory oversight. You should discuss this material with appropriate advisors in the context of your circumstances before acting in any manner on this material or agreeing to use any of the referenced products or services and make your own independent assessment (based on such advice) as to whether the referenced products or services are appropriate or suitable for you. This material may not be comprehensive or up to date and there is no undertaking as to the accuracy, timeliness, completeness or fitness for a particular purpose of information given. BNY Mellon will not be responsible for updating any information contained within this material and opinions and information contained herein are subject to change without notice. BNY Mellon assumes no direct or consequential liability for any errors in or reliance upon this material.


This material may not be distributed or used for the purpose of providing any referenced products or services or making any offers or solicitations in any jurisdiction or in any circumstances in which such products, services, offers or solicitations are unlawful or not authorized, or where there would be, by virtue of such distribution, new or additional registration requirements.


© 2020 The Bank of New York Mellon Corporation. All rights reserved.

Ready to grow

your business?

Speak to our team.

Ready to grow your business? Speak to our team.