The Tension Over Taming Private Credit

Money from institutional investors is driving growth in the asset class, but it’s also pushing down yields.

Illustration by II

Illustration by II

If it’s ugly, it probably is higher returning.

Institutions, sick of earning almost nothing on corporate and government bonds, have been allocating more and more to higher-yielding private credit for a decade. But their push for standards and other information that they’ve long gotten on other fixed income assets is also pressuring yields. Standards risk homogenizing private credit, making it look a lot more like all those low-yielding, easily bought-and-sold bonds in the public markets. And not everyone likes that.

“Commoditization is good for institutional investors,” said Elissa von Broembsen-Kluever, partner at alternative investments firm Omni Partners, speaking at an event Tuesday. “It leads to transparency. It makes the decision to allocate [to the asset class] easier. But there’s a flip side. I do believe it will lead to yield compression as more capital comes in and returns go down.” Von Broembsen-Kluever explained that future opportunities may be in smaller strategies such as trade finance or real estate debt.

“Prudently regulated investors continue to push for harmonised risk metrics and ratings, which can sometimes conflict with the bespoke and idiosyncratic nature of private credit assets,” according to research from the Alternative Credit Council.

Private credit strategies include a broad spectrum of investments from simple and low risk to complicated with higher risk and potentially higher returns.

Benjamin Fanger, founder of ShoreVest Partners, which specializes in Chinese distressed debt and structured credit investments, said commoditization brings competition which in turn leads to higher risk. “The provider of capital has less leverage. Covenants get less onerous,” he said. But Fanger emphasized that homogenization of private credit is not a global trend, and is highly specific to the region.


“Institutions are looking for differentiated platforms that can provide aviation finance, life sciences, trade receivables,” said Joseph Glatt, general counsel of Apollo Capital Management. Glatt, also speaking at the roundtable. Glatt explained that Apollo has long traded simplicity for yield, making it an expert in hard-to-understand transactions and earn a higher return as a result. He stressed that private credit once trafficked in smaller transactions — $100 million to $500 million deals. Now, larger $1 billion deals are far more commonplace. “That means it’s gotten commoditized. That’s a good and a bad thing.”

The research from the Alternative Credit Council and Dechert, which included responses from 60 firms managing about $400 billion in private credit, cited European and U.S. markets as the biggest areas for growth. Half of the respondents said they expect to invest more money into Europe, and 43 percent will likely put more money into the U.S. Asia is also attractive, with one-third of respondents saying they’ll expand in the region.

Managers are also preparing for a market turn in real ways: focusing on their lending and underwriting processes, and making significant investments in technology and restructuring teams, according to the report.

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“During a downturn having a relationship with an Apollo or an Ares will be positive. Those companies can come out of a downturn in a better position,” said Richard Horowitz, partner at Dechert.

Private credit managers also argue that when the end of the bull market inevitably comes, the one-on-one relationships that they have with companies will help mitigate the damage. They say it will be far different than the last crisis when banks played a larger role in lending.

Jiří Król, global head of the Alternative Credit Council, said, “managers provide a unique service. It’s not just a one-to-one replacement” for banks.

Although the report found that pension funds and insurance companies are driving much of the growth of private credit, von Broembsen-Kluever said some institutions are still sitting on the sidelines. That’s because the asset class hasn’t gone through a downturn and big investors want evidence of how they’ll weather choppy markets.

Confident that the industry will do well, she said there will be a spike in institutional money coming in after a crisis. “Then you’ll see an upward trajectory,” she said. Of course, they’ll miss a lot of opportunities in the meantime.