Dr Dorothy Kelso, Global Head of SuperReturn, takes us through the strategies that are gaining popularity in private credit, the new kid on the investment block that is evolving at an unprecedented speed.
In my conversations with private credit insiders, it is becoming evident that the private credit industry is evolving at a much faster pace than the private equity industry has done over the last 40 years.
The rapid influx of capital into the industry plays a big part in this – $770bn has flooded into private credit funds, much of it since the credit crunch – whereas it probably took 15-20 years for the then-nascent private equity industry to garner this level of commitments from institutional investors.
I have been particularly interested to hear more comments about, and acceptance of, trigger-based distressed funds. These are funds that are being raised by GPs to be invested in the event of a downturn, but with no management or performance fees charged until the fund is ‘triggered’. The advantage is that it gives LPs time to due diligence funds and commit capital now so that funds are ready to deploy capital when the time is right, and it allows fund managers to be able to quickly capitalise on distressed opportunities when the downturn occurs. While investing in trigger-based funds has definite upsides, LPs understand that there is an opportunity cost to them of committing to these funds as they miss out on investing in other funds that are currently actively investing.
Specialty finance is becoming a more prevalent investment strategy as the direct lending market becomes more saturated. I have found that the definition of specialty finance varies somewhat between different private credit managers but is broadly accepted to include the financing cash flows backed up by hard assets such as leasing of aeroplanes and rail cars. LPs tell me that they prefer fund managers to have niche industry/sector expertise to fully capitalise on the complexities and upsides of these types of investment opportunities.
As the tech boom has permeated every industry, it has also made private credit managers a little less risk averse, and venture lending is another strategy that is gaining some traction. Fund managers lending to revenue-generating not-yet-profitable tech businesses are carefully weighing up the (not insignificant) risks that companies will fail versus the (sometimes substantial) upsides that they will succeed. Venture lending is still a small part of the private credit industry and, like its counterpart venture capital in the private equity industry, is likely to remain so in the future.
When I wrote From credit crunch to credit boom?, private credit still seemed to be “the new kid on the block”. Now, just two years on, the industry is already approaching its next phase of development. Private credit is now very much part of institutional investors’ allocations strategies. Technology is influencing everything from which private credit managers LPs invest in to which companies receive credit financing to how fund managers run their back-office operations. Many have commented that the industry is looking frothy and ripe for consolidation. With private credit managers continuously refining and expanding their investment strategies and LP appetite for the asset class growing, this industry promises to be an exciting one – one way or another!
Keep watching this space.
Want to learn more about private credit?
SuperReturn Private Credit Europe 2019, held in London on 13-14th May, delivers two days packed full of content and networking for 230+ attendees - including 80+ leading LPs and 100+ influential GPs. The 2019 agenda features new topics such as the impact of technology, stressed investing and co-investments. Data rich presentations track the evolution of private credit across the globe and interactive discussions give the lowdown on private credit across the European hotspots. With speakers and attendees travelling from the USA, emerging markets and across Europe, the insights are truly global.