• This article explains the characteristics of non-bankable assets and how they can be transformed into bankable assets through processes like securitization.
• The information is mainly directed at asset managers looking to improve the liquidity of the products they manage for their clients.
• FlexFunds offers an asset securitization program that optimizes the distribution of investment strategies, with or without bankable assets. For more information, feel free to contact our experts.

The advancement of technology and the democratization of financial markets have enabled the development of innovative solutions to facilitate asset management and offer a wider variety of investment alternatives.

For example, it is now possible to convert non-bankable assets into bankable assets through processes like securitization.

Below is an overview of these types of assets and the flagship mechanism to enhance their liquidity and enable more efficient commercialization.

Non-bankable assets and their prevalence across industries

Non-bankable assets are those that, due to their nature, cannot be easily used as collateral for bank loans. They also cannot be incorporated into traditional bank portfolios or wealth management.

According to Avaloq International, these assets include direct investments in private companies, luxury residences, art collections, classic cars, high-value jewelry, rare properties, or other forms of “non-financial assets.”

Currently, it is estimated that approximately one-third of global private wealth is invested in non-bankable assets. These are distributed in various ways: special real estate, intellectual property (patents, trademarks), infrastructure or alternative energy projects, collectibles, etc.

Traditional vs. non-traditional assets

Traditional (or bankable) assets are generally stocks, bonds, funds, deposit accounts, or loans that generate predictable cash flows, have liquid markets, frequent valuations, and are accepted as collateral by banks.

On the other hand, non-traditional (or non-bankable) assets have characteristics such as high illiquidity, difficult or infrequent valuation, lack of standard market comparables, and often do not generate regular or standardized cash flows.

“Non-bankable assets are not part of a typical bank’s portfolio, they are rejected as collateral, require high minimum investment, and require expert knowledge for valuation,” explains Avaloq.

Why are these assets “non-bankable” in the conventional financial system?

In the conventional financial system, many of these assets are non-bankable due to certain “negative” characteristics:

• Scarcity of liquidity: Their transactions do not have an active market, making it difficult to sell the assets quickly or use it as collateral.
• Uncertain valuation: They lack sufficient historical data and exhibit significant individual heterogeneity, which prevents establishing a reliable and frequent value.
• Unpredictable cash flows: They do not always generate regular income or certainty about future payments, making them less attractive as collateral.
• High risk: Both operational and market risk (e.g., for collectibles, the risk of value deterioration may be higher).
• Regulatory and operational framework: Banks require guarantees that meet regulatory criteria for collateralization, acceptability, asset type, independent valuation, etc., which limit many alternative assets.

The impact of illiquidity on portfolio management and corporate financing

The effect of illiquidity on portfolio management and corporate financing is profound and often underestimated.

When a company or fund includes assets that cannot be easily liquidated or used quickly as collateral, various challenges arise related to both risk and the cost of capital.

Firstly, from a portfolio management perspective, an illiquid asset means the investor has less flexibility to rebalance the portfolio, respond to crises, or meet unexpected liquidity needs.

For example, including illiquid assets might cause greater risk aversion by the investor and a lower allocation to those assets (and other risky assets) compared to a fully liquid scenario.

Secondly, for a company that holds illiquid assets, the problem shifts to the realm of financing: the inability to convert those assets into cash quickly or easily limits its leverage capacity, reduces its perceived solvency, and may increase its cost of capital.

Another relevant aspect is the “illiquidity premium.” Investors demand additional compensation for assuming the risk associated with the difficulty of liquidating the asset or using it as collateral.

In fact, in investment funds, it has been estimated that exposure to illiquidity accounts for a non-trivial part of the vehicle’s alpha, with approximately 77% of the illiquidity premium being passed on to the investor.

Innovative solutions for making assets bankable

Fortunately, there are some innovative solutions to make non-bankable assets bankable. The most popular and effective one is definitely securitization.

The role of securitization

Asset securitization is a process where an asset or a basket of assets is transformed into a listed product (ETP)

In the case of FlexFunds, a leading company in the securitization sector with more than USD 6 billion in securitized assets, over 500 issuances in more than 30 countries, and over 200 clients worldwide, the process consists of five steps:

1. Design of the ETP investment strategy.
2. Signing of the engagement letter.
3. Due diligence process.
4. Creation of the ETP.
5. Issuance of the ETP.

FlexFunds’ ETPs adopt the characteristic framework of structured notes and are integrated and backed by a portfolio of underlying assets.

In this regard, the inherent risk of the instrument is solely linked to the assets on which they are issued, without extending this risk to other activities or businesses of the company.

From the client’s perspective, this design enables the implementation of an investment strategy with a more efficient cost structure. For investors, the advantages lie in greater simplicity for onboarding and, therefore, smoother access to the proposed project.

To learn more about asset securitization and FlexFunds’ ETPs, don’t hesitate to contact our specialists. We’ll be glad to assist you.

Sources:

• https://www.avaloq.com/insights/reports/non-bankable-assets-investing-in-a-new-era
• https://www.vbsoexpertise.com.br/wp-content/uploads/2020/08/Securitization-Financial-Instrument-of-The-Future-KOTHARI.pdf
• https://www.cfgroup.net/2019/05/25/what-to-do-if-youre-not-bankable-part-1/
• https://www.financialresearch.gov/working-papers/files/OFRwp-20-03_illiquidity-in-intermediate-portfolios.pdf
• https://www.sec.gov/files/dera_hf-liquidity.pdf