Plans to increase Europe’s capital markets capacity hinge on giving retail investors access to private assets, but liquidity remains a sticking point. Evergreen funds, designed to offer investors some liquidity in otherwise illiquid assets, are being touted as a solution. However, the cost of these liquidity provisions could place additional burdens on both investors and asset managers.
As European legislators prepare to finalise new regulations under AIFMD II, the debate over how to manage the inherent tensions in these long-term investment vehicles is gaining urgency.
“An evergreen fund, that’s basically an AIF, a private fund investing into illiquid assets and which has unlimited duration,” said Benjamin Bada, a partner at CMS Luxembourg at a recent industry event. “There is a requirement for the manager to offer some liquidity and redemption rights to investors.”
Bada noted that in recent years “we have seen more and more of these private funds structured as evergreen funds.” In part to offer redemption options, but also to appeal to retail investors.
Savings investments
“For the retail clients, I think that’s a very interesting opportunity to invest in evergreen because, you know, they’re going long-term and can even do savings and invest on a monthly or yearly basis, something in private assets, and the fund has the opportunity to create yearly value for the investors in the market,” explained Dirk Holz, the chairman and managing director of Commerz Real Fund Management.
Given the “inherent sensitivity” of evergreen funds, European legislators have focused on investor protection in reforming the Alternative Investment Fund Managers Directive, also known as AIFMD II. This will become Luxembourg law no later than the first quarter of 2026.
The new text specifically addresses debt—or loan origination—funds by making them closed-ended by default “unless the AIFM of that debt fund is able to demonstrate to its regulator that the liquidity management policy of that fund is appropriate” in light of the investment fund’s policy.
Choosing from a list
Another measure requires evergreens to select at least two liquidity management tools from a list set out in AIFMD2 and mention them in the fund documentation.
Investors in closed-ended funds will frequently come across a market cycle which might make it perfect to get out and redeploy their capital, but they can’t, Holz explained, which helps build interest in evergreen funds.
Real estate evergreen funds can develop and position properties, Holz explained, or they can refurbish or put long-term leases on their properties, “Really create value and you are able to look at the different market cycles and see what is the best price you can at the end generate for the fund and for the investors.”
A little bit short
Holz also spoke of how evergreen makes sense in long-term investments like infrastructure and renewables. He added that they could have big value in private equity. “If you’re buying an unlisted company, and you would like to structure this new position within the market and with the exit, I would say a life cycle of eight to 10 years might be a little bit short.”
Not everyone is a fan of open-ended funds, said Felicia Efta, who heads alternative funds and legal at UBS Asset Management, at a recent Luxembourg conference. “We also see a lot of investors to whom we show our open-ended fund with pride and they say ‘oh, I would like a closed-share class’.”
“Liquidity features,” explained Jan Hendrik Witte, the CEO of Record Financial Group, “will come at a price indirectly, because it’s an additional feature that needs to be integrated into the investment strategy and that’s something which the asset manager needs to deliver in addition to delivering a return.”
Liquidity imposes burden
“Conversations around the concept of liquidity” explained Witte, put “a greater burden on both investors and understanding what that means, but also greater burden… on the asset manager in charge to ensure that… the underlying investment opportunity is managed optimally, while… obeying the real rules when it comes to redemptions in the future.”
Furthermore, there are issues with the way redemptions are structured and even what would happen if there was a run on the fund in the event of a market downturn. The short time frame for redeeming investments, pointed out Holz, meant that it would only work well with a small number of investors.
Some investors will find this advantageous, Witte explained, “primarily investors who are smaller,” who can’t as easily access vintage or diversification.
Two for one
Certain institutional clients, explained Holz, have unrealistic expectations. They “like the idea that maybe I have the opportunity to exit some investments… but they are still expecting the closed-ended returns.”
Another way to use evergreen funds is as a successor of an existing closed-ended fund, explained discussion Bada.