Case 091Fund economics, NAV and LP decisionsCore

The Cendra Absolute Return Fund manages Rs 2,000 crore. Investors ask to redeem 30%, but a 20% quarterly gate applies. 60% of the book can be sold in five days and the rest takes a month. How do you meet the redemptions, and what does the gate protect?

The situation

The Cendra Absolute Return Fund manages Rs 2,000 crore with quarterly liquidity. Its offering documents include an investor-level gate: in any quarter, redemptions above 20% of NAV are scaled back pro rata, and the excess rolls to the next dealing date. After a weak year, investors holding 30% of the fund ask to redeem.

60% of the book is listed equity that can be sold within five days. The other 40% is in smaller positions and private credit that need about a month to sell at a fair price; selling them inside a week would cost an assumed 8% discount, against about 1% over a month.

Your task

How much is paid now, how do you raise it, and whom does the gate protect?

Quick check

Investors ask for Rs 600 crore. How much does Cendra pay at this dealing date?

Worked solution

Try it on paper, then open one step at a time.

30-second answerThe answer to give first

Cendra pays Rs 400 crore now, two thirds of each request, and defers Rs 200 crore to next quarter. Raise it by selling a slice of everything: Rs 240 crore of liquid holdings in five days and Rs 160 crore of slower assets over the month. The gate protects the investors who stay, from fire-sale losses of about Rs 19 crore and from being left holding the hard-to-sell part of the book.

Step 1What does the gate allow you to pay, and to whom?

Think of a bank branch on a day when every depositor wants cash at once: it can pay out what is in the vault, and the rest has to wait for the next delivery. A redemption gateA clause in the fund documents that limits how much can be withdrawn at one dealing date and rolls the excess to the next. caps what leaves at one dealing date, here 20% of Rs 2,000 crore, Rs 400 crore, and shares it pro rata. Every redeeming investor receives two thirds of the request, and Rs 200 crore joins the queue for next quarter, when the gate applies again.

Asked Rs 600 crore, gate pays Rs 400 crore, the rest waits a quarter05101520253035Days after the dealing dateDay 0: requestsRs 600 crore, 30%20% gate appliesRs 400 cr accepted, 2/3 eachDeferred to next quarterRs 200 crore waits in the queueDays 1 to 5: sell Rs 240 cr of liquid holdingsDays 1 to 30: sell Rs 160 cr of slower assets, no fire salePay Rs 400 cr
Cendra accepts Rs 400 crore of the Rs 600 crore requested and defers Rs 200 crore; it sells Rs 240 crore of liquid holdings in the first five days and Rs 160 crore of slower assets across the month, and pays on day 30.
Step 2Which assets do you sell to raise Rs 400 crore?

A slice of everything, not the easy part. Selling 20% of each holding, Rs 240 crore of liquid equity and Rs 160 crore of slower assets, leaves the remaining investors with the same 60 to 40 book they signed up for. The month the gate buys is exactly what the slower assets need to be sold near fair value. Selling only the liquid holdings would be faster and cheaper today, but it would quietly transfer the fund's illiquidity to whoever stays.

What the investors who stay are left holding, Rs croreGate, sold pro rata960 liquid640 slow40% slowGate, sold liquid first800 liquid800 slow50% slowNo gate, liquid first600 liquid800 slow57% slowSelling the easy assets first leaves the hard ones to whoever stays
Selling a slice of everything leaves the remaining investors in a 60/40 liquid book; selling liquid holdings first leaves them 50% in slow assets, and paying the full Rs 600 crore from liquid holdings with no gate leaves them 57% in slow assets.
Step 3What would have happened without the gate?

Paying Rs 600 crore within a week, pro rata, means dumping Rs 240 crore of slow assets at the assumed 8% discount. That costs about Rs 19.2 crore, and if redeemers are paid at the pre-sale NAV the loss falls on the Rs 1,400 crore that stays, about 1.4% of their money. With the gate, Rs 160 crore sold over a month at about 1% costs Rs 1.6 crore, 0.10% of what remains. The gate is a fairness rule between those who leave and those who stay.

ApproachPaid now, Rs croreSlow assets soldSelling cost, Rs croreCost to those who stay
No gate, pay in a week600240 in a week19.21.37%
Gate, slice of everything400160 over a month1.60.10%
Without the gate, selling Rs 240 crore of slow assets in a week costs about Rs 19.2 crore, 1.37% of the money that stays; with the gate, selling Rs 160 crore over a month costs about Rs 1.6 crore.

Close with the cost of gating, because there is one. A gate tells the market the fund is under pressure, and investors who were not redeeming may file requests next quarter to be sure of getting out, a slow-motion run. So the manager's letter matters as much as the arithmetic: explain the gate, show the book is being sold evenly, and give the date the deferred money will be paid. The documents decide whether deferred requests rank ahead of new ones; check them before promising anything.

Where candidates lose it

The common miss is meeting the redemption by selling the liquid assets first because they are quick and cheap. That protects today's number and hands the remaining investors a more illiquid, riskier fund than they chose.

The second is describing the gate as a way to trap investors. It exists to share the cost of liquidity fairly; the candidate who can show the Rs 19 crore it saves the remaining investors has understood why it is in the documents.

What the interviewer asks next

  • Next quarter another 25% asks to leave on top of the Rs 200 crore deferred. What happens?
  • Would you rather use a side pocket for the private credit? Set out the trade-off.
  • How would you word the letter to investors announcing the gate?

Company names and figures are illustrative.