Oliver Colman, Director, Financial Solutions, Chris Hall, Executive Director, Financial Solutions from WTW
Benefitting banks and private credit funds
For bank lenders, insurance can support fund financing activity in several ways. One significant opportunity is to use insurance to secure limit relief. Where banks are moving close to their internal credit limits with a particular fund or asset manager, insurance makes it possible to leverage additional lending while carefully managing exposure.
The bank can continue extending credit to maintain its positive relationship with the manager. This insurance is non-disclosable; the manager may not even be aware that the bank has insured some of the liability.
Another potential benefit is capital relief. Banks conscious of their capital requirements under the Basel regulations may benefit from insuring their fund finance exposures with a highly rated insurer. Fund finance facilities, such as capital calls and NAV lending, tend to be relatively highly rated, but leading insurers offer even stronger ratings.
Beyond the banks, the growing number of specialist private credit funds providing fund finance to asset managers also have good reason to consider insurance. It supports greater proactivity and underpins lending even in volatile market conditions, providing additional security for investors and the credit fund’s own limited partners (particularly those that may be Solvency II or NAIC regulated).
There is also the potential to increase risk-adjusted returns. Insuring against the default of a borrower with even a relatively strong credit rating effectively upgrades that rating, providing beneficial internal credit treatment. Equally, while private credit funds have other options for mitigating risk – lending alongside a bank or another fund for example – insurance enables the fund to distribute its risk ‘in silence’; this strategy doesn’t have to be shared with investors, creditors or competitors.
Finding the right insurer
Critically, however, fund finance providers need to identify the right insurer in order to take full advantage of these opportunities. While a significant number of insurers offer a range of non-payment insurance in various forms, the subset that write cover for the fund finance market is much smaller, with around 20 insurers now active in the market.
Good support from an experienced insurance broker is also critical. In particular, a broker can help lenders work through insurers’ due diligence processes, which can be broad. Insurers will want to scrutinise the deal for which the provider is extending finance, but also the quality of the lender itself. Well-rated sovereign wealth funds and asset managers, for example, pose less risk than, say, a lower rated family office.
Expanding into NAV lending insurance
Finally, it’s also interesting to see the growth of the fund finance market beyond capital call facilities. Increasing appetite for net asset value (NAV) lending reflects the value to private funds of raising liquidity without the use of the secondary market. But as with capital call financing, providers of this type of fund financing may need support as growth continues.
Again, insurance can work as enabler. And while insurance for NAV lending is a less mature market, a growing number of fund finance providers are beginning to see the advantages. For example, the arbitrage opportunity on NAV finance, where the underlying asset is likely to be less well-rated or even unrated, is even more significant.
Insurance brokers play an important role here too. For example, the insurance market has a different approach to NAV lending, where the finance is secured against the fund’s investments, and asset-backed loans (ABLs), where the security is the value of a portfolio of such lending. Banks providing back leverage to asset managers, secured against an underlying portfolio of assets, have also worked with WTW to secure insurance. Insuring NAV loans is more challenging, with fewer insurers active, but this area of the market is attracting more interest.
The bottom line? Insurance has the potential to become an important value-accretive enabler of a broad range of fund finance. In a fast-growing market, it could provide crucial competitive advantage to banks and private credit funds alike.
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