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ESMA’s latest Alternative Investment Fund study intensifies focus on liquidity and leverage

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Last Friday ESMA published its second major analysis of the Alternative Investment Fund (AIF) market, with the report shedding further light on the overall AIF landscape.

Coming on the heels of the inaugural report released in March 2019, the sweeping study now covers nearly the entire market – compared to just 80% last year – and includes data from 30,357 AIFs.  Liquidity and leverage were again the major themes.

AIF market tops €5.8tn

Covering over 30,000 AIFs, or nearly 100% of the market, the latest study offers the most detailed breakdown of the market to date.

The EU AIF sector in 2018, as measured by Net Asset Value (NAV), amounted to €5.8tn, or roughly 40% of the total fund industry. That’s up from the €4.9tn estimate of 2017, where AIFs made up around one third of the fund industry.

Fund of Funds accounted for 14% of the industry, followed by Real Estate (RE) Funds (12%), Hedge Funds (6%) and Private Equity Funds (6%). The remaining category of “Other AIFs” accounts for nearly two-thirds of the industry (61%) and is mostly comprised of alternative equity and fixed income strategies (67%).

Retail participation is still significant but slightly lower than the previous report, at 16% compared to 19% in March’s report.

Liquidity remains key concern

Like last year, liquidity remains a key concern, with ESMA’s chair, Steven Maijoor, declaring that: ‘a detailed analysis of the liquidity risks of AIFs has highlighted that especially the categories with the highest percentage of retail investors are vulnerable to these risks. This should be considered by investors when making their investment decisions.’

The sectors with the most retail investors? Once again, that’s Fund of Funds (31%) and Real Estate (21%). For Fund of Funds, there is a notable mismatch in liquidity, with 35% of their overall NAV supposedly redeemable in a day, despite only 24% of assets able to be liquidated in that time frame.

Meanwhile, many Real Estate funds offer daily dealing despite the underlying assets being highly illiquid – an issue that’s come to the fore in recent years, with M&G Investments suspending redemptions in its flagship £2.5 billion fund late last year, and several others gating after the shock Brexit vote.

Hedge funds increase leverage again

Leverage employed by hedge funds continues to grow. Despite accounting for just 6% of AIFs, their gross exposure totalled 67% of all AIFs, mostly due to their increasing reliance on derivatives. Last December ESMA valued the 2018 EU Derivatives Market at €735trn, an 11% increase from the previous year.

Looking ahead

Overall, the report is a comprehensive and welcome breakdown of the AIF sector and underlines just how seriously ESMA is taking liquidity concerns ahead of the new regulations set to come into force in September.

As Maijoor remarked: ‘This data will also support National Competent Authorities in their supervision of AIFs, and further strengthens supervisory convergence throughout the EU.’

Stay tuned later this week, when AQMetrics will post a more detailed analysis of ESMA’s findings.

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