The anti-dilution levy charges the cost of liquidity to the investor whose transaction causes it, and it has to be calibrated, not picked.
An anti-dilution levy is a charge on a subscribing or redeeming investor, paid into the fund, equal to the estimated cost of the liquidity that investor's transaction forces the fund to buy. On an illustrative 300 million open-ended credit AIF, a 30 million redemption above a threshold of 2 per cent of NAV, met by selling loans at a cost of 1.75 per cent, carries a levy of 420,000, 1.40 per cent of the redemption. Without it, the investors who stay lose 15.6 basis points of their NAV.
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 →
AIFMD II requires managers of open-ended AIFs to select at least two liquidity management tools from points 2 to 8 of Annex V of the Directive (not swing pricing and dual pricing alone), and the anti-dilution levy is one of them. It is the tool most directly aimed at fairness between investors: a gate or a notice period controls how fast money leaves; the levy decides who pays for it leaving. ESMA's guidelines on liquidity management tools expect the levy to be calibrated to the cost of liquidity the transaction causes, which makes it a calculation the manager has to be able to show, not a round number in the prospectus.
| Input | Value |
|---|---|
| Net asset value before the redemption | 300,000,000 |
| Redemption by one investor | 30,000,000 |
| Threshold met from the liquidity buffer without selling, 2.00% of NAV | 6,000,000 |
| Discount to carrying value on loans sold | 1.50% |
| Transaction costs on loans sold (legal, agency, broker) | 0.25% |
| Cost of liquidity per unit sold | 1.75% |
The threshold reflects the fund's policy: transactions below 2.00 per cent of NAV are met from cash the fund holds for that purpose, at no cost to the others. Above it, the fund sells loans from the book at a discount to the mark.
Levy = MAX(0, transaction − threshold) × (discount to carrying value + transaction costs)
Dilution avoided = levy ÷ NAV remaining after the transaction
In Excel, with the redemption in B1, the threshold in B2 and the cost rate in B3: =MAX(0,B1-B2)*B3. The levy is retained in the fund, not paid to the manager; the redeeming investor receives the redemption less the levy.
Step 1: the part above the threshold is 30,000,000 − 6,000,000 = 24,000,000. Step 2: the cost rate is 1.50 + 0.25 = 1.75 per cent. Step 3: the levy is 24,000,000 × 1.75 per cent = 420,000, or 1.40 per cent of the redemption. Step 4: the investor receives 29,580,000, and the remaining NAV of 270,000,000 is untouched.
Without the levy, the 420,000 of selling cost falls on the investors who stay: 15.6 basis points of their NAV, or 1,556 for every 1,000,000 they hold. With it, the redeeming investor bears the cost of its own exit. The calibration sits on two inputs the manager has to evidence: the discount at which loans actually trade or are expected to trade, and the size below which the buffer absorbs flows. Both should come from the liquidity stress testing the fund already runs; the reverse stress level of a comparable fund is worked in how to compute a reverse stress level.
A swing price with the same 1.75 per cent factor, applied to the whole redemption once flows cross the threshold, would take 525,000 from the investor, 105,000 more than the cost it causes. That excess goes to the remaining investors. A levy can be designed to fall only on the part of the transaction that creates the cost; how swing pricing itself works is shown in swing pricing in a semi-liquid fund.
| Redemption | % of NAV | Levy | Levy % of redemption | Dilution if not charged, bps |
|---|---|---|---|---|
| 3,000,000 | 1.00 | 0 | 0.00 | 0.0 |
| 6,000,000 | 2.00 | 0 | 0.00 | 0.0 |
| 15,000,000 | 5.00 | 157,500 | 1.05 | 5.5 |
| 30,000,000 | 10.00 | 420,000 | 1.40 | 15.6 |
| 45,000,000 | 15.00 | 682,500 | 1.52 | 26.8 |
The levy rises faster than the redemption because the threshold is a fixed amount: the larger the exit, the larger the share sold rather than met from cash. In stressed markets the discount widens. At a 3.50 per cent discount plus the same costs, a cost rate of 3.75 per cent, the 30,000,000 redemption carries a levy of 900,000, 3.00 per cent of the redemption, and the dilution it prevents is 33.3 basis points. A levy fixed in the documents at the normal-market rate under-charges exactly when it matters, so the policy should let the manager recalibrate it, with the method and the governance written down in advance.
Compute the part of the transaction the buffer cannot meet, multiply by the discount plus costs of selling, and pay the result into the fund: 420,000 on a 30,000,000 redemption here, 900,000 in a stressed market. The free workbook for this book computes the reverse stress test of a levered credit fund, the liquidity analysis on which a levy's calibration rests.
Swing pricing adjusts the NAV at which every dealing investor transacts; an anti-dilution levy is a separate charge on the investor whose transaction causes the cost, paid into the fund. On the illustrative fund, a 1.75 per cent swing on a 30 million redemption takes 525,000, while a levy charged only above the 6 million threshold takes 420,000, the actual cost.
The fund, for the benefit of the investors who remain. On the illustrative fund the 420,000 levy offsets the selling cost of the 30 million redemption exactly, so the remaining NAV of 270 million is not diluted. Annex V also makes the redemption fee payable to the fund; a charge kept by the manager is neither tool and does not protect the other investors.
Large enough to cover the stressed cost of selling. If the discount on loans widens from 1.50 to 3.50 per cent, the illustrative 30 million redemption's levy rises from 420,000 to 900,000, 3.00 per cent of the redemption. A levy fixed at the normal-market rate would recover only 420,000, leaving 480,000, or 17.8 basis points, on the remaining investors.
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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