Fair valuation as an ongoing industry focus

As investment funds expand into private equity, private credit, and cryptocurrencies, the valuation operating model faces growing complexity. Traditional valuation methods are being supplemented with new approaches, greater expert judgment, and the use of valuation specialists due to assets with limited pricing data and illiquidity.

Regulatory focus is increasing as more retail investors access alternative assets, prompting fund groups to enhance oversight and update their valuation practices. Private equity remains central for many funds, while private credit is rapidly growing, creating new challenges that drive increased reliance on third-party valuation experts.

The use of external valuation specialists is now common for both private equity and private credit to ensure objectivity and accuracy. Cryptocurrencies, though held by a minority of funds, bring unique volatility and evolving valuation techniques.

Evolving governance and operating models amid new challenges

The regulatory environment is intensifying for fund valuation, with the SEC’s focus of Rule 2a-5 compliance and new guidance relating to private funds and digital assets. Fund groups must manage both the technical demands of valuing complex assets and the need to show boards of directors/trustees (“Boards”) and regulators that their processes are strong and adaptable.

The SEC’s recent “Reg Flex Agenda” highlights priorities in digital assets, retail access to private funds, and innovation. These regulatory trends add to the complexity faced by investment funds as they update their valuation operating model and defend their methodologies.

Examinations of rule compliance now happen soon after new rules are adopted and continue without long adjustment periods. Nearly half of surveyed fund groups have already faced SEC inquiries on Rule 2a-5, showing that monitoring of valuation practices is now a standard part of regulatory oversight. Being prepared and consistent in valuation operations is essential for maintaining investor confidence.

Industry at a crossroads

In today’s business landscape, discussions about AI-based technology and its future impact on the workplace are ubiquitous. Whether enhancing day-to-day productivity in human resources or generating AI capabilities for content creation, AI’s potential is vast. While its full potential remains to be seen, AI can already provide significant efficiencies in the valuation process. This includes generating documentation, obtaining and summarizing research, and even generating valuations for private equity or debt positions. The valuation operating model stands to benefit greatly from these advancements.

However, despite the promising possibilities, technologies are not infallible. Human oversight remains essential to ensure that the output from any technology aligns with the facts and circumstances at hand. Therefore, continued investment in human capital is crucial to maintain effective oversight of these technologies.

Looking ahead

Overall, fund groups are adapting to a more complex environment by evolving their valuation operating models, deepening their expertise often through external valuation experts, and tightening governance to keep valuations robust and defensible as new asset types and investment strategies emerge.

Fund groups have strengthened their valuation models under Rule 2a-5, with ongoing risk assessments driving procedural improvements. While compliance is high, it remains to be seen if benefits like less-biased valuations and more active Board oversight will be fully realized.

For even more in-depth insights and detailed findings, download the 23rd edition of our Fair Valuation Survey report.