American investors looking for a gateway into Europe
Stephen McKenna, Co-Head, Private Debt & Capital Markets – EMEA
SANNE’s, Stephen McKenna, Co-Head of Private Debt and Capital Markets shares his outlook on trends seen for US investors looking to invest into European structures and how an administration provider can assist with current and future requirements.
2017 was a ground breaking year for the private debt market with global capital raised passing the US$100 billion threshold for the first time. Although it appears that fund raising has slowed in 2018, there are still a number of reasons to remain positive as investors continue to increase their allocation to private debt within their alternatives bucket or recognise private debt as an asset class in its own right. With a steady growth on the horizon, market commentators believe that the market will reach US$1 trillion of assets under management by 2020. A more than 20 fold increase since 2000.
What to look out for
Despite the long-term positive outlook, there are signs of stress for the short term. There is a huge amount of dry powder, as a result of the bumper fund raising period, and managers appear to be facing increased competition for the most attractive deals. Additionally, growing political uncertainty and interest rates globally are on the rise. These are just some of the concerns that are regularly voiced.
What are SANNE doing to address the change?
SANNE organised its business on an asset class basis in 2008 and therefore our Private Debt and Capital Markets division has a decade of experience with the administration of European funds and following the addition of our US office to the group in 2016 we are now well placed to look across the Atlantic to consider the differences between the two key jurisdictions within our market.
A sophisticated US market
The US market is still undoubtedly the largest and most developed. Potentially due to the increased competition for deals, desire to diversify or simply because of greater exposure, we have seen more US investors coming into European based funds or funds investing into Europe over the last couple of years. In addition, in Europe the banks have dominated SME lending, however, gradually we have seen and heard about their retreat from this space. This has happened at a different pace across the various nations that make up the European Market. Therefore corporates in Europe are potentially less likely to look for alternative methods of financing and therefore it is the responsibility of the industry to educate both investors and potential borrowers domestically and continue to attract more investors from the US.
One-stop solution and the administration requirements
When US investors decide to invest into European products there have been a few prominent due diligence questions that have been key to who they would like to administer the structures they fund. One of these is how quickly can I access information in relation to my investment? Especially if outside of US office hours and will the difference in time zones cause any service issues. To mitigate these concerns US managers seek administrators who utilise online portals that allow investors to access their historic fund information at any given point in time. For out of office points of contact it is important to partner with an administrator that has experience in dealing with US managers/investors and/or has a jurisdictional presence. When selecting an administrator in Europe for a structure aimed at US investors we believe it is important to appoint a party that has both presence and appropriate technology to service investors.
Navigating regulatory requirements
Recently, we have seen an effort to deregulate in the US under the current administration, however, the tide is definitely moving in the other direction for Europe. The industry is facing increasing oversight and reporting requirements such as AIFMD. Now more than ever non-European investors need to understand the rationale, obligations and cost of such directives. SANNE provide a fully integrated end-to-end service offering in terms of services required under AIFMD, including AIFM, depository and fund administration (including financial reporting) in order to pass the synergies on to our fund investors, who potentially only see this cost as a necessary evil, while ensuring their structure is fully compliant.
In addition to the cost of compliance with regulatory requirements such as AIFMD, US investors are also likely to want to hedge their exposure to their European investments, be it GBP or EUR. Despite the attractiveness of GBP investments at the moment due to a weak sterling. In order to minimise this drag on return it is important that their manager or administrator offer an attractive hedging solution. Through working with SANNE’s in-house treasury team we provide effective hedging solutions and have experience in being able to execute trades in a timely manner and report on these transactions effectively. Similarly, we have had considerable experience over the years of reporting on funds that include share class hedging or asset level hedging that we are able to draw from to deliver a cost effective service that adds value.
Change and volatility can be an opportunity
One potential threat to return to the private debt market (for EU funds) that might be below the radar for some US investors is the implementation of IFRS 9. This has hit returns of some funds by up to 200bps both from a once-off project cost perspective and from an ongoing effect of increased loan loss allowance imposed by the reporting standard. SANNE assist US investors navigate through this new requirement based on our experiences to date. This is more important now for funds launching post 1 January 2018 to ensure that their target return marketed to investor’s factors in any impact that this new accounting standard will have.
Further to the experience our team already poses in relation to dealing with IFRS 9, SANNE also have an experienced team of technical accountants who are familiar with both IFRS and US GAAP. This can be very useful when IFRS-US GAAP reconciliations are required if US investors need them.
As a result we generally see our US investors favouring funds that provide higher returns. Once the higher US interest rates, cost of European regulatory requirements and hedging are factored in we do not generally see US investors looking for 5 or 6% returns. Therefore US investors tend to prefer the leveraged options or higher yielding options, such as Mezz, special situations or Non-performing loans. Given the increased familiarity with the debt market that US investors have, this also potentially improves their understanding of these products and their confidence to invest in such products.
Looking to 2019 and beyond
As interest rates in Europe increase, banks continue to retreat and investors look to diversify their holdings. We believe that markets such as Germany and Italy will become increasingly important to the global private debt market, by being the longest standing debt specialist administration firm in Europe we hope that our worldwide presence, debt specialist systems and asset class understanding will help us to assist current and future US investors as they look to Europe.