Pension funds, family offices, foundations, endowments, and other institutional investors consistently navigate distinct challenges compared to individual retail investors. The worldwide recession and inflation in 2023 and 2024 have introduced unprecedented operational disruptions to the conventional management and decision-making frameworks that these institutional investors employ to manage asset and income distribution within investment funds. Institutional investors can tackle these challenges by understanding the impact of the recession and inflation on the secondary markets for private fund investments and by refining their internal governance to foster more effective responses to market fluctuations. 

Regarding the institution’s engagement in the secondary markets, institutional investors should commence with a thorough review of their holdings to ascertain a clear understanding of the proportion of liquid to illiquid assets within the institution’s portfolio. Under typical market conditions, investment advisors often suggest a minimum allocation of assets that can generate immediate liquidity to meet unexpected cash flow needs. Read more about discretionary asset management .

 The recession and inflation have altered this strategy, prompting advisors to advocate for a higher percentage of liquid holdings. Institutions can achieve this through secondary sales or private dealings with third parties outside the public markets. In scenarios where investment and resale constraints might hinder the sale of specific assets, institutions should consult with their legal advisors to explore possibilities for lifting those restrictions.

Securities transactions in the secondary markets usually occur at a discount to the public market per-share price of the underlying asset. In light of this, institutions must reevaluate how they value their assets in capital accounts. In traditional markets, the disparity between the public per-share price and the private transaction price does not necessitate a capital account valuation write-down. However, the current market’s unusual volatility may compel managers to acknowledge write-downs. Again, institutions should seek advice from their accounting and financial advisors before engaging in any private transactions to understand the accounting implications.

Despite the financial entities that facilitate private securities transactions generally being capable of completing purchases and sales within thirty days, volatile markets can result in significant value decreases during the interval between the execution of a purchase agreement and the transaction’s closure. Institutions should implement purchase and sale price protection measures to mitigate potential losses and safeguard the value of private secondary sales of portfolio assets. These measures include, for example, “material adverse change” clauses, enhanced due diligence, market modeling and projections to anticipate price drops, postponing the execution of purchase agreements until transactions can be finalized, and mandating simultaneous agreement execution and closure to eliminate valuation gaps.

To effectively serve their stakeholders in markets disrupted by recession and inflation volatility, institutional investors must manage transactions with an awareness that the risk associated with secondary transactions has significantly increased. Managers can address this heightened risk by:

• seeking more definitive terms and conditions in letters of intent;
• negotiating purchase and sale agreement terms more assertively with proposals that advantage buyers without diminishing the transaction value for the institutional seller (e.g., granting the buyer exclusivity rights in exchange for favorable sales terms);
• conducting thorough due diligence on the financial and creditworthiness of buyers to ensure transactions are completed successfully.

Institutional investment fund managers face the daunting task of overseeing these transactions and leading due diligence efforts in a climate where regular travel and face-to-face interactions are severely limited. When these restrictions are insurmountable, managers might consider various strategies to balance liquid and illiquid assets, including restructuring specific assets’ financing and proposing commitments to additional transactions as restrictions ease.

After addressing secondary market transactions, an institutional investment manager’s next focus in navigating the volatile economy of 2023 and 2024 should be to adapt the institution’s internal governance to the new environment. The foremost governance concern involves in-person meetings. The same travel limitations affecting due diligence also render in-person meetings challenging, if not impossible. An institution’s board of directors or trustees can overcome this challenge by adopting technology solutions for virtual meetings, including methods for recording meetings and decisions, and for formalizing transaction approvals by internal committees.

Additionally, governance adjustments should consider document execution when direct signatures from authorized managers or directors are unfeasible. As a supplement to remote signatures, institutions should establish methods for transmitting and recording original documents among all transaction parties.

Institutions must also revise internal governance to swiftly respond to investment obligations, such as capital calls and cash or in-kind distributions. Institutions with capital call commitments should meticulously review default provisions in those commitments, potentially renegotiating default and cure terms to better align governance with capital call commitments.

Lastly, an institution should reevaluate any limitations it has placed on making alternative investments. Modifying governance provisions may conflict with these limitations or with previously set allocation caps on alternative investments. Where necessary, institutions can update their governance to eliminate these restrictions or caps, granting management more flexibility in considering alternative investments.

Ultimately, engaging in secondary market transactions to balance liquid and illiquid assets and modifying internal governance procedures are initial steps towards managing an institution’s portfolio amid the recession and inflation-induced market volatility of 2023 and 2024. Institutional investment management is a continuous endeavor in optimal markets and demands an even greater commitment from managers under current conditions, ensuring sustained demands on their expertise for the foreseeable future.