Geoff [00:00:00] Hello, and welcome to the State Street Semi-Liquid Fund podcast. I'm Geoff Pullen, Head of European Alternative Fund Sales, and joining me today is Dr. Sven Eggers, European Head of Private Market Product, and Sebastien Rouyr, Head of Transfer Agency Products and Business Development EMEA. Sven has over 20 years' experience in asset fund servicing, including deep expertise in real estate and private credit. And Seb, with over 20-years' experience in the fund industry, has in-depth experience of working with liquid and semi-liquid clients and their interaction between distribution and invested channels. On the agenda today is the rise of semi-liquid evergreen funds, the specific challenges relating to semi-liquid products, and a very timely review of the liquidity management tools managers need to consider. Sven, if we could start with you, there is a lot of noise and hype in the industry now. In your view, where do you think the market is with this type of fund?
Sven [00:00:56] Thank you, Geoff, happy to respond to that. So, semi-liquid funds are indeed experiencing a rapid growth presently. We see assets surging over 60% from 2022 and they are about to reach, according to our estimation, about 350 billion (as of 2025). These evergreen or perpetual structures, as they are sometimes named, this is the idea of the promoters to democratize access to private assets, so make them actually tailored to a retail client need’s. And the most sought for asset segments here are private credit as well as private equity with the latter being the largest one. And the idea behind these semi-liquid funds is actually to offer quarterly or monthly liquidity to investors. So, actually breaking the traditional multi-year lock-up model that has been proved to be a deficit of earlier structures in the market. And in addition, in the United States, where it's actually, for example, BDCs and REITs that dominate the market in Europe, we see especially strong the UCI Part II, first, and then the ELTIF 2.0, and there are also indications that we see that the UK-based LTAF funds are on the rise and there's more to come, especially the ELTIF are still small in size. Private credit is not the strongest sub-asset segment we're seeing here, but the strongest growing one, so it will be exciting to see how this is developing actually over the next years. To sum it up in the European region and this includes UK, we've seen considerable shift towards this broader access to private markets through these hybrid or other semi-liquid fund structures. And especially US managers, but also UK managers, see more and more interest in the market with this earlier mentioned growth of AUMs that we see here. And as also said, it's especially in Luxembourg and especially the UCI Part II that is the most sought after product here, I'm proud to say that State Street has a 16% market share according to the latest Monterey data in the UCI Part II as it's servicing, which gives us a great trade report.
Geoff [00:03:23] Thanks, Sven, so, there are clearly constant developments in the semi-liquid market, which I guess bring unique liquidity management demands. What's driving these challenges?
Sven [00:03:35] Yes, so the portfolios are constructed to include a certain percentage of liquid listed or at least cash equivalent assets alongside, let's say, the core portion of these funds, which is the illiquid private investments. Those, this, so-called liquid sleeve, is of course set up to meet redemption requests because you cannot wait to have an illiquid asset as sold on the market to meet liquidity demands on investor's side. And those semi-liquid products now provide the quarterly or depending on the fund monthly liquidity to investors by utilizing tools like redemption gates and also cash buffers are available to meet those liquidity demands that investors might actually raise. These liquidity sleeves, just to give an impression on that, might make up 5% of the fund's net asset value, just to name an example. And the idea behind is to provide a periodic exit window rather than a long-term lockup to make these products more acceptable, more interesting to retail investors. And of course, it's with us as asset services to cope with these requirements at scale to make sure, those are by function embedded in our service operating.
Geoff [00:05:01] Thanks, Sven. Seb, given what Sven's just described, as managers enter and grow their businesses in this space, what methodologies and techniques are they using to deal with these challenges?
Seb [00:05:12] First of all, good morning, good morning, all, and very happy to be on this podcast, Geoff. This is actually a critical consideration. The challenge is to put in place measures that support continued investment in semi-liquid product while also giving fund managers the flexibility they need to manage the liquidity as effectively as possible. As Sven mentioned, this portfolio remains predominantly illiquid, so typically supported by a liquid sleeve of around 20%. The real focus is operational here, any specific features deployed must work at scale and be automated. This can simply not be run on a spreadsheet. From a regulatory standpoint now, we all know that AIFMD II, which is effective April 20261, will require EU AIFM to open-ended funds to adopt at least two of those liquidity management tools, and LMTs, from an approved list that has been published. So, one of the objectives is to enhance investor transparency regarding the mechanism that may be activated when liquidity is insufficient to meet the regulatory, the redemption request. Ultimately, we expect these LMTs to be on a regular basis for such a fund, considering the nature of the fund portfolio, the profile and the investment practice of the investor base. At the end of the day, we are bringing two worlds together, an alternative product and a more traditional type of investor base.
Geoff [00:06:46] Thanks Seb, so just drilling into AIFMD II in a little more detail, what are the new requirements this brings to EU-domiciled semi-liquid funds and what are key considerations for managers, and I guess also, how do we see the marker reacting?
Seb [00:07:01] So, this new requirement, Geoff, mandates the adoption of at least two of these liquidity management tools. So, the tools contemplated by the AIFMD tools include redemption gates, ADL, string pricing, suspension of redemption, redemption in kind, extension of notice period, side pocket, and dual pricing. As you can see, quite a number of possibilities, the practical challenge is making this tool work smoothly in an operating model that often runs on a monthly subscription and quarterly redemption cycle. Without automation and a well-designed workflow, applying those LMTs can quickly become cumbersome on a day-to-day basis. So, it also can't be solved in isolation. The end-to-end process and the lifecycle are critical of those products, and you need to look across the full value chains with all the different stakeholders. So, what I mean here is that you need to include the asset managers, the distributors, the transfer agents, the fund accounting team, and the others playing a role into that ecosystem. The decision points repeat every dealing cycle most of the time. The fund may decide to activate an LMT or not, and this is why it is critical to adopt an effective operating model, timeline and provide actually the adequate dataset to the fund to make the right call on their side and on a more regular basis. Today, the market is highly aware of the importance of these requirements, but implementation remains challenging across the different scenarios. Servicing these products requires the right technology stack, combining alternative capabilities with LMT functionalities, a deep connectivity to the distributors, and the platforms, and the ability to scale across a large transaction investor volume space. But last and not least, what is also very important is to have a pool of specialists with the right expertise to service this day-to-day. At State Street, we have been supporting semi-liquid clients for several years now, leveraging our experience across both alternative and mutual funds. We have integrated the required LMT capabilities, while adding also more granular features, such as lot level transaction tracking, for example, and we continue to work closely with the client and to monitor the market in the industry evolution in order to adapt our service proposition for our client.
Geoff [00:09:38] Okay, thanks, Seb, that's great, so we're seeing active evolution of the regulations, but I'm really glad to hear that at State Street, we're fully tooled up to support these. And Sven, beyond what Seb just outlined, what are the developments do you see on the horizon with respect to the broader market?
Sven [00:09:53] Yes, so Geoff, we've seen actually liquidity management in action, and this might also, let's say, give us some perspective on what we might to expect also in the future time to come. So, it becomes a bit more concrete here. We've seen high profile gating or for example, the suspension or restriction of investor redemptions. And this has actually recently impacted several major private funds. This happened particularly within the real estate and private credit sectors, and so to name an example, this included one REIT that paused redemptions to manage high withdrawal requests, and another affected REIT, for example, has gated due to increased redemption demand. So, this then really liquidity management and action asset manager, clients, and promoters need to react to. We've also experienced a gated fund within private credit portfolio that, for example, cited that they see liquidity risk as a reason for gating, and so these are not risk-free products. The liquidity sleeve here is an essential component of handling those risks of these fund products to increase the level of security of the investors, and regulators have taken into consideration these developments. So, for example, the AIFMD II regulation is reacting to such risks, and as I mentioned earlier, as of 20262, European funds have to implement at least two LMTs by April 16, which is the legal timeframe.
Geoff [00:11:35] Thanks, Sven. Seb, given what Sven just outlined, what developments do you think we'll see in the future in relation to the investor and the distribution market?
Seb [00:11:49] I mean, Geoff, at the end of the day, it's a very exciting time for the moment. We see a lot of interest from a huge client base, agnostic of jurisdictions. At the end the day, open-ended semi-liquid product offer new investment opportunities for traditional investors, providing access to strategies and investment approach that differ from the conventional usage funds, where they have been invested in the past. So, when combining with the extensive cross-border distribution capabilities of markets such as Ireland and Luxembourg, these products can be scaled across a broader and more diverse investor base. So, there is definitely a significant opportunity for that, while the future remains uncertain, particularly in today's geopolitical environment, as we all know, it's essential for the industry and the players like us to evolve and adapt our model to actually the new generation of investors and the technology that they are using. At State Street, this transformation is a clear priority. We remain committed to drive innovation in the months ahead.
Geoff [00:13:01] Thanks, Seb, that's great to hear. So, clearly, liquidity management of these funds and systemic support as an administrator to a wide range of LMTs is absolutely critical in a manager's choice of fund administrator. I'm glad to report that here at State Street, we offer a robust institutional grade fund administration platform, which we've targeted at semi-liquid funds and are working with many managers to enable their launches in both the Europe and the US. Should any of you wish to discuss semi-liquid funds with us, please do reach out to us via LinkedIn, your State Street Relationship Manager or visit our website at statestreet.com. Seb and Sven, I'd like to thank you both for your input today. Clearly, this isn't the last we'll hear about these challenges.
