The number is only usable by a board if the walk that produced it is on the page, with its error band beside it.
On Fund IV's own figures — €310 million of net asset value, commitment-method leverage of 140 per cent, a severe quarter with secondary bids 12 points below carrying value — the reverse stress level is 17.2 per cent of net asset value in a single quarter, plus or minus 4.8 points. That is the redemption level at which the fund could not meet its obligations without selling core assets at distressed prices. The fund's gate holds redemptions at 4 per cent, so the gap is 13.2 points.
Worked in full in The AIFMD II Handbook by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
Fund IV is an open-ended semi-liquid private credit fund with €310 million of net asset value, quarterly dealing on ninety days' notice, and commitment-method leverage of 140 per cent. Its portfolio buckets — 11 per cent in cash and short-dated instruments, 9 per cent in liquid syndicated loans, 24 per cent realisable within six months, 56 per cent realisable only over twelve months or more — are shares of gross assets, not of net asset value. Read against net asset value they sum to €310 million and the €124 million of debt-funded assets disappears from the liquidity profile. Read against gross assets they sum to €434 million and nothing is missing. Every figure below is 40 per cent larger under the correct reading.
The severe quarter runs secondary bids 12 points below carrying value, a 6 per cent haircut on the liquid bucket, a 10 per cent markdown on the illiquid book, and 40 per cent of the six-month bucket realisable inside the notice period.
| Severe quarter | €m |
|---|---|
| Cash, after the operating buffer | 43.1 |
| Interest, net of the non-accrual assumption | 7.3 |
| Scheduled amortisation | 0.5 |
| Prepayments at the stressed rate | 2.6 |
| Liquid bucket, sold at a haircut | 36.7 |
| Six-month bucket, the realisable share, sold at a discount | 35.8 |
| Facility advance rate taken on every disposal | −36.3 |
| Borrowers drawing on undrawn commitments | −17.1 |
| Fees and facility interest | −3.0 |
| Borrowing-base call on the markdown | −16.5 |
| Net cash available to redeeming investors | 53.2 |
The facility takes its advance rate on the €72.6 million of disposals before the fund sees a cent. The borrowing-base call is the advance rate applied to the fall in collateral value: it is the line most models omit, and the one that arrives without anyone selling anything. Against a net asset value of €310 million, €53.2 million is 17.2 per cent.
Run the same quarter with no facility and the reverse stress level is 34.2 per cent. At an advance rate of 25 per cent it is 25.7 per cent. At 50 per cent it is 17.2 per cent. No asset changed, no investor changed, no redemption assumption changed.
| Financing | Advance rate, per cent | Reverse stress level, per cent of net asset value |
|---|---|---|
| No facility at all | — | 34.2 |
| Facility on conservative terms | 25 | 25.7 |
| Fund IV as it is documented | 50 | 17.2 |
Two terms carry it: the advance rate on disposals, and whether a markdown triggers a borrowing-base call. Both are negotiable at signing, and neither is usually negotiated by the person who will later have to defend the liquidity file.
The outflow most often left out of the model is larger than the barrier the gate provides. Fund IV's €38 million of undrawn borrower commitments, drawn at 45 per cent in a stressed quarter, is an outflow of €17.1 million, or 5.5 per cent of net asset value. The gate holds redemptions at 4 per cent. Remove the undrawn book from the model and the reverse stress level rises from 17.2 to 22.7 per cent — five and a half points of resilience that exist only in the version that forgot them.
A single figure without an error band is not a stress test result, it is an assertion. Vary the three inputs that matter most across defensible ranges — prepayments from 0 to 6 per cent a year, the advance rate from 40 to 60 per cent, the undrawn book from €20 million to €60 million — and the half-ranges are 1.7, 3.4 and 2.9 points. Combined in quadrature that is 4.8 points. At two standard deviations the interval runs from 7.6 to 26.7 per cent, which is why the handbook's approximate figure of 19 per cent for the same fund sits comfortably inside it.
The quarterly line to the board is then three numbers rather than one: reverse stress level 17.2, gate 4.0, gap 13.2 points. The gate is 0.23 times the reverse stress level and 2.75 standard deviations below it. A board given those numbers can tell whether anything has moved. A board given “comfortable headroom” cannot.
The same grid computed in ordinary conditions — no stress discounts, prepayments at the ordinary rate, borrowers drawing at 15 per cent — supports 37.7 per cent of net asset value if the whole six-month bucket is counted inside the quarter, and 21.8 per cent if none of it is and the fund relies on cash, the liquid bucket and contractual flows alone. Both figures are net of the facility's advance rate on every disposal. Neither reaches the 8 per cent of net asset value per quarter the fund states as its operating figure.
That is not an error. It is a policy: the fund choosing to operate at roughly a third of the most conservative capacity its own portfolio supports, and never planning to touch the six-month bucket to meet a quarterly redemption. It is a good discipline, and it should be written down as a choice with the computed capacity beside it, because a supervisor who recomputes the grid will get 21.8 and will want to know why the file says 8.
It identifies the redemption level at which a fund could not meet its obligations without disposing of core assets at distressed prices. It is the one liquidity figure directly comparable to the gate. For Fund IV the level is 17.2 per cent of net asset value in a quarter against a gate of 4 per cent, a gap of 13.2 points.
Gross assets. Fund IV's buckets of 11 per cent, 9 per cent, 24 per cent and 56 per cent sum to €434 million of gross assets. Read against €310 million of net asset value they leave the €124 million of debt-funded assets unaccounted for. At 140 per cent leverage the two readings differ by 40 per cent on every line.
Fund IV's €38 million of undrawn commitments, drawn at 45 per cent under stress, is an outflow of €17.1 million, or 5.5 per cent of net asset value — larger than the 4 per cent gate. Leave them out of the model and the reverse stress level rises from 17.2 to 22.7 per cent.
This article is one calculation from The AIFMD II Handbook. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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