Fund finance: the debate rages

Augmented by high-profile voices in both the manager and investor camps, the use of subscription credit lines by fund managers has come under heavy scrutiny.

Subscription credit lines have existed for many years, but they have been thrust into the spotlight again as a hot-button topic after Oaktree Capital Management chairman Howard Marks highlighted their use by fund managers in his latest memo.

The credit facilities are short-term loans used by fund managers to make investments early on in the fund’s life and to smooth out capital calls for their investors.

Yet, the overriding concern relates to the use of these facilities potentially inflating internal rates of return, leading investors to re-evaluate how they assess a fund’s performance.

Alongside Marks, high-profile voices in the investor community have placed the use of these lines under heavy scrutiny.

At the California Public Employees’ Retirement System’s investment board meeting last month, a former board member raised the issue of subscription credit lines. Michael Flaherman, a visiting scholar at the University of California Berkeley, said the lines “[raise] significant concerns of systemic risk” for the private portfolio and voiced worry about the use of them to “bump up people’s compensation.”

For Marks, a worst-case scenario would see the credit lines add substantial risk for general partners and their fund investors, which he said could even lead to limited partners defaulting on fund commitments.

The issue is far from black and white and there is much more to be done to understand the advantages and risks of using credit facilities.

The latest issue of PERE, alongside its sister publications, embarks on a detailed examination of their use. You can read all about the use of subscription credit lines here.