Liquidity management for AIF retailization success

Multi asset managers as well as specialized alternative investment fund (AIF) firms are thus actively investigating avenues to broaden their product ranges and penetrate new pockets of investor capital by introducing semiliquid fund structures that are suitable for a wider array of non-professional investors. However, this retailization journey has proven to be rockier than many firms had hoped for.

A key reason for this lies in the complex liquidity management needs for alternative funds targeted at non-professional markets. Retail investors are characterized by a pronounced need for liquidity, a demand that regulators underscore through stringent liquidity provisions to safeguard consumer interests. The central question confronting asset managers is therefore how to design semiliquid investment vehicles while at the same time investing into assets that are intrinsically illiquid by nature. As a significant step forward in the ongoing efforts to broaden retail investor access to alternative assets, the revised European Long-Term Investment Fund (ELTIF 2.0) framework, has introduced a fund structure fully eligible to retail investors. At the same time, it is also testament to the challenges for fund managers on their retailization journey. Current deliberations over the ELTIF 2.0 regulatory technical standards demonstrate a clear preference by authorities for detailed and prescriptive regulations concerning liquidity management instruments in retail-friendly alternative fund configurations. This poses a series of complex challenges to fund managers. To ensure commercial attractiveness, they must devise solutions that mitigate the potential adverse effects of liquidity mechanisms on superior portfolio returns as well diversification benefits that are hallmarks of pure play private market investment strategies. For semiliquid open-ended funds, in particular, there is a pressing need to reconcile ongoing fund share subscriptions and redemptions with the typical commitment-based investment methods predominant in alternative asset markets. Moreover, managers must ensure that the chosen liquidity management tools also address retail investor needs in times of market stress to avoid a lock-in during times in which liquidity is potentially most needed.

In considering potential solutions, one might inquire if technological advancements could alleviate current hurdles. Specifically, tokenization – the process of converting the ownership of fund shares or units into digital tokens that represent an investor’s stake in the fund – is often cited as a game changer by allowing for subscriptions and redemptions of fund shares on a secondary market instead of creating liquidity on the fund portfolio level. This innovation might prevent the inclusion of more liquid assets in the alternative retail fund portfolio, thereby preserving the alignment with the considerably higher return objectives typical of exclusive alternative investment strategies.

Additionally, it could facilitate easier and faster divestment due to the real-time execution and settlement capabilities inherent to blockchain-based trading platforms. While these prospects sound promising in theory, their practical application depends primarily on two factors. Firstly, blockchain technology has been incorporated into the Luxembourg fund law, but the widespread approval and adoptions of tokenized retail investment funds have yet to occur. Secondly, the widespread adoption of tokenized fund solutions is dependent not only on regulatory acceptance but also on the willingness of a sufficient number of market players to engage on such secondary platform venues to provide for required market depth and liquidity.

Presently, the necessity for robust liquidity management strategies at the fund portfolio level will, at least in the near term, continue to be a crucial determinant in the successful retailization of alternative funds ensuring that progress is set to satisfy retail investor needs while adhering to regulatory safeguards.