Life’s been tough for the limited partner community since the credit and financial crises. Plagued by over-allocation and liquidity issues, many institutional investors were forced to sell assets and scale back or restructure their investment programmes.
“In 2008-2009 we experienced a six- to nine-month period where access to liquidity was a huge concern for global investors. That was unique,” says Ian Charles, principal at secondaries firm Landmark Partners. “For the last 20 years, even during the tech bubble, there wasn’t a widespread global liquidity shock where access to capital to fund future capital calls was really an issue.”
As a result, LPs’ asset allocation models have never really been adjusted to assess whether an institution is nearing what it would deem a liquidity crisis, he says. “By and large, LP asset allocation models have historically just focused on risk-return but in kind of a volatility or market risk framework. They’ve ignored the risk of a liquidity shock.”
Landmark shared an upcoming white paper – part of an ongoing series that aims to provide a framework for discussion of industry issues – with PEI, which urges LPs to integrate a “liquidity governor” into their allocation models. Regularly assessing the results from equations based on liquidity-related factors (see chart), which vary greatly from one LPs to the next, will help them better understand their own liquidity framework including factors like appetite to sell liquid assets to fund illiquid exposures, Charles says.
He estimates that roughly one-third of LPs are vulnerable to a liquidity shock, particularly LPs with a lot of unfunded commitments relative to their total portfolio value and relative to their institution’s need for liquidity. It’s for those LPs that coming up with a customised liquidity governor is likely to make the greatest impact, improving programmes’ overall long-term risk profile.