Portfolio Finance
Portfolio finance has gained significant momentum in private markets in recent years. It comprises flexible credit solutions for private fund managers and their investors, allowing them to bridge liquidity needs without giving up control of the underlying assets.
In effect, it sits at the intersection of private credit and the secondaries market – a new category with distinctive risk-return characteristics, priority in receiving cash flows, and low LTV ratios. Portfolio finance transactions totaled approximately $22 billion in 2023 – a sevenfold increase in four years. According to recent forecasts, the market could reach nearly $100 billion by 2028, assuming sufficient capital is available to fund these transactions.
This rapid growth reflects genuine market needs: the sharp rise in interest rates in 2022–2023 and the liquidity constraints faced by GPs and LPs exposed the limitations of traditional solutions and created demand for innovative credit structures. In other words, as rising financing costs and a slowdown in exits created liquidity “bottlenecks,” more participants began to adopt portfolio finance as an effective response – not merely as a temporary fix, but as an enduring strategic tool. Despite the surge in activity, it is worth noting that the field is still in its early stages and continues to evolve. Usage is expected to grow steadily, as GPs and LPs become increasingly aware of, and open to, flexible solutions beyond the traditional fund model.
The three pillars: Fund Financings, LP Interest Financings, GP Financings:
Portfolio finance can be divided into three main categories, reflecting transactions that share the same basic concept but differ in execution:
1.Fund Financing / NAV Lending: Loans extended at the fund level, secured by part of the fund’s portfolio (for example, all of its holdings or a representative subset). In other words, the fund borrows against the net asset value (NAV) of its assets. Loan proceeds can be used for a variety of purposes – funding follow-on investments in portfolio companies, new acquisitions, bridging cash flow, or even providing liquidity to investors through distributions from a fund that has not yet been wound up. Compared with debt at the level of a single company, a NAV loan of this kind benefits from risk diversification across a pool of assets, and therefore typically allows moderate leverage at a competitive interest rate.
2. LP Interest Financing: Loans secured by a portfolio of interests in investment funds. Such a transaction can take two main forms – either the borrower is an individual limited partner (LP) pledging its fund interest as collateral for credit (for example, to obtain liquidity instead of selling the interest on the secondary market), or the borrower is a secondary buyer using debt to lever the acquisition of a portfolio of LP interests. In either case, the collateral consists of fund positions – an asset less liquid than public equities, but highly diversified and subject to periodic fair-value marks.
3. GP Financing: Debt or equity transactions directed at the fund manager entity itself, secured by the GP’s assets and income. Examples include financing the GP’s own commitment to the fund (GP commitment), a loan backed by rights to management fees or by future carried interest, or even debt financing of GP-led secondary transactions. Indeed, as part of the development of the GP-led secondaries market, we are seeing sponsors use NAV-based credit tools as an alternative or complement to equity liquidity transactions. A clear example: rather than selling one of the portfolio companies to an external continuation fund, the GP levers the existing portfolio through a NAV loan in order to distribute cash to existing LPs – thereby achieving immediate liquidity without losing control of the asset.
From the LP perspective, the contribution of portfolio finance is somewhat more nuanced, but there are potential benefits for them as well. First, in certain cases investors can use portfolio finance directly for their own needs: for example, a pension fund that needs liquidity but does not want to sell its private fund interest at a discount on the secondary market can take a bank loan secured by its LP interests. In this way, it recovers part of its capital without giving up its future rights to the fund’s profits (the asset remains its own). Such a solution can be particularly attractive when the secondary market is dormant or pricing is low, since the loan provides a “bridge” until the fund distributes enough to repay the debt.
More indirectly, LPs benefit when the tool is used judiciously by the GP: if, by means of a portfolio loan, the GP manages to rescue a good company from collapse during a difficult period (for example, by repaying expensive debt at the company level), the LPs will ultimately benefit from a successful exit rather than a default that would have wiped out value. A 2024 Rede Partners report noted that LPs, even the skeptics among them, would prefer the use of portfolio finance over losing an investment altogether because a company was unable to refinance its debt – if that is what it takes to give the business time to recover. Of course, LPs also benefit from the liquidity aspect when the GP uses debt to return part of their capital earlier than expected: while some view this as “a dividend paid with a loan,” others may welcome cash distributions at a convenient time (for example, to meet other obligations), provided this does not impair long-term value.
Despite its potential, portfolio finance carries a range of risks that must be carefully managed. First, the risk of double leverage (leverage on leverage): when a fund has a portfolio loan, the assets backing it are companies that may already carry debt at the company level. This means that the LPs’ investment is already levered at the company level, and is now levered again at the fund level – which can amplify losses in the event of a significant decline in value, since the loss “carries” two layers of debt on top of it. Another risk is the cost of capital in a high-rate environment: although we noted that credit spreads are reasonable, the all-in cost of financing (base rate + spread) in 2023–2024 is materially higher than it was in 2018–2019. Accordingly, whereas in the past it was easy to argue that a portfolio loan was “cheap” relative to the alternative cost of capital (for example, the target return of a secondary investor), today a loan may carry a double-digit effective interest rate. The implication is that the burden on fund assets is heavier – portfolio companies need to grow fast enough to justify the interest cost of the fund-level loan as well.
The rise of portfolio finance marks a new stage in the development of private markets. Whereas fund managers and family offices previously relied mainly on equity and secondary sales to manage liquidity, today they have an additional set of tools at their disposal – flexible credit solutions backed by portfolio assets. The use of these tools grew out of necessity (rising interest rates, difficulty in executing exits) and is gaining traction in fund management and private investment activity.
Disclaimer:
Nothing in this publication constitutes an offer to the public or an invitation to invest of any kind; it is a publication and presentation of general information only. This article and its contents rely on information and published data received from third parties, which were assumed to be accurate without the company having examined or verified their accuracy. The information presented in this publication does not constitute investment advice/investment marketing, nor is it a substitute for investment advice/investment marketing tailored personally and specifically to each person, taking into account their data, needs, financial situation, circumstances and investment objectives.
Sources:
AlpInvest Partners. (2024). Portfolio Finance 2.0: Accelerating credit solutions for private capital. Carlyle Global Investment Solutions.
Rede Partners. (2024). NAV Financing Market Report 2024.
OurCrowd. (2024). The rise of portfolio finance: How new credit solutions are transforming private markets. Retrieved from https://www.ourcrowd.com/learn/the-rise-of-portfolio-finance.