Data-driven valuations can boost investor confidence in financial inclusion funds

ACTIAM has partnered with IHS Markit to utilise data on loan sector curves to value private debt loans, a move they hope could boost investor confidence in financial inclusion funds and contribute to the growth of this impactful sector

Investing in financial inclusion institutions (FIIs) can have a huge positive impact on low-income households across the world, but insufficient data and the lack of robust valuation processes are still barriers for investors.

Information provider IHS Markit (IHSM) and impact and sustainable investment manager ACTIAM have been working in partnership to implement a new data-driven valuation process for private debt investments which they believe could help boost investor confidence in the sector, while achieving positive social impact by contributing to the UN Sustainable Development Goals (SDGs).

The two firms have just published a white paper exploring the challenges of valuing FIIs and the details of their new valuation process. 

FIIs have widened their scope of clients beyond micro entrepreneurs to serve the micro, small and medium enterprises (MSMEs). The paper argues that access to finance is “frequently identified as a critical barrier to growth for MSMEs and as one of the strongest drivers of economic development, innovation, and employment”.

FIIs, the paper says, offer “an essential contribution towards financial inclusion and in addressing the phenomenon commonly referred to as the ‘missing middle’” – those who are either too small to access traditional banking, or too big to receive microloans. 

The paper refers to research by the International Finance Corporation (IFC), the private lending arm of the World Bank, which suggests that some 1.7 billion people in the world are unbanked. The IFC also estimates that 65 million MSMEs face credit constraints, representing 40% of all enterprises in the 128 reviewed emerging market countries, translating into a potential demand for MSME finance of $8.9 billion, compared to the current supply of $3.7 billion.

Data-driven valuations

ACTIAM launched its first institutional microfinance fund 15 years ago, with the aim to bridge this funding gap, by providing loans to financial inclusion institutions in developing and emerging economies. 

“We have a long-standing history in investing in private debt in emerging markets providing unparalleled financial and impact return to our clients ,” explains Sinisa Vukic, senior impact investment manager at ACTIAM. “Our first fund was launched in 2007 and since then we have looked at how to add to the sector development and cope with the challenges.”

He mentions valuations as one of the main challenges in this sector. “This is pretty much an inefficient market in the sense that a lot of the information is not publicly available,” he adds.

The paper states that “a transparent and consistent valuation process and robust underlying market data” is critical for investor confidence in the fair value calculations of private assets of a fund. 

With the aim to better capture fair value of the underlying assets, ACTIAM started its collaboration with IHS Markit. “We talked to them about ways we could further enhance our valuation policy and the quality of the data input, have more granular data about the loans pricing, and put it into our system”, Vukic notes. 

The partnership has resulted in a new data-driven valuation process that uses daily data on sector/rating/region curves, based on actively traded syndicated loans to value private loans. 

An imperfect market

The paper explains how “daily sector curves are generated across countries, regions, sectors, currencies and ratings, using end of day pricing on over 2.8 million securities” and used those for private debt valuation.

In the context of the ACTIAM Financial Inclusion Fund, the data is to some extent imperfect given that still does not capture entirely the emerging market private loan data set. Nevertheless, “the enhanced valuation policy makes use of the best practices of private loan pricing providing fair value on the fund’s underlying loans”.

Karthick Chandrasekaran, business manager, pricing and reference data at IHS Markit, says: “The key was to use daily market data to price private debt investments that are not priced daily. The daily valuation process adopted by ACTIAM should increase investor confidence – ultimately, we want the sector to grow, because if the sector grows the investment impact grows, and that makes the world a better place.” He adds: “ACTIAM was the perfect partner for us to see how innovative this space can be and shake away any of the inhibitions that investors might have to come into the sector,” he says. 

Vukic adds: “The financial inclusion sector witnessed a steep professionalisation curve in the past decade but of course there is still room for improvement. We see our role as a front-runner, a pioneer in the sector, trying to make this market more accessible to all industry players. Having fair and daily valuations is one of the first steps, the second one would probably be creating a secondary market and starting to trade those loans.”