AIMA Global Investor Board: Perspectives on liquidity management

Published: 19 April 2024

  • As institutional investors are allocating a higher portion of their portfolios to the generally illiquid private assets, liquidity needs to be managed carefully. Ideally, liquidity and leverage management should be centralized at a total portfolio level, allowing for more flexible and strategic liquidity management, and avoid inopportune fire sales of illiquid positions. Implementing a portfolio-wide tiered approach for asset management - dividing assets into short, medium, and long-term buckets while balancing drawdowns versus cash reserves – is essential. 
  • To maintain adequate levels of liquidity, strategic thresholds, liquidity forecasts and ongoing stress testing are required to build contingency plans under a wide range of market scenarios. Monitoring of liquidity coverage ratio (LCR) requirements to determine the optimal level at which a dip in LCR should trigger fundraising. Identifying LCR needs at both the short-term and long-term is important while including additional buffers over specific LCR targets where appropriate. 
  • Balancing between operational and strategic liquidity includes trade-offs between maintaining liquidity reserves and seizing alpha-generating opportunities. While some investors maintain a strategic cash weight for "optionality" and flexibility, it’s important to model how often and how deep potential timing of investment opportunities will compensate the portfolio for the cash drag.
  • Liquidity waterfalls identify priority sources for drawing liquidity with treasuries, large-cap developed equity markets and TIPS being primary, ideal sources. Other first levers can include fund-level leverage and physical to synthetic conversions. A second tier would be to redeem from active managers in separately managed accounts. Liquidity is rarely taken from leveraged loans, high yield, investment grade and other credit or top active managers. For some, hedge funds with daily or monthly fund liquidity have served as a liquidity source during market turmoil. Only select allocators can consider debt issuance (commercial and term paper) to raise liquidity. 
  • Investors can face unique challenges with currency hedging and liquidity requiring a robust treasury management function. However, foreign currency can act as a countercyclical buffer - for example, Canadian investors can leverage the USD/CAD exchange rate dynamics to help manage liquidity.