June 12, 2020
Amid the market volatility and resulting dislocations, opportunities are coming to the fore for investors in the burgeoning private debt sector.
With distressed loan volumes expected to soar in the coming months, firms are looking to distressed debt and other private debt and credit strategies, observes Audrey Nangle, Director of Private Equity & Real Assets at MUFG Investor Services. “The focus is on entire industries that are now struggling, including energy, travel, non-streaming entertainment, retail and restaurants.”
LCM Partners CIO Adrian Cloake points to the prospect of a rapid increase in European non-performing loans. Early estimates suggest Spain’s bad loans may double with an extra €100 billion, while Germany’s Federal Association of Loan Purchase and Servicing expects NPLs in the country to surge from €33 billion at the end of 2019 to around €100 billion this year.
“With total European consumer and SME loans standing at more than €10 trillion, an extra 3-4 percent of defaults translate into a massive €300 billion-€400 billion of additional NPLs to be sold,” says Cloake.
Funds at the ready
Private debt markets have been a booming corner of the alternative asset world in recent years. Preqin’s most recent figures show AUM hit a record $812 billion in June 2019, up from $275 billion a decade before—making it the third-largest asset class in private capital.
Fundraising slowed through 2018 and 2019 amid an increasingly competitive deal market, looser loan covenants and fears of an emerging bubble. But structural tailwinds—including bank retrenchment and the growing attraction of private markets to investors—are supporting the industry’s long-term growth, notes the Alternative Credit Council. The COVID-19 crisis, and the market dysfunctions that have emerged, are further fueling that interest.
Fund launches have accelerated in response. For instance:
– Global investment firm KKR has raised $4 billion in less than two months to take advantage of the market volatility. The firm’s credit business will invest in “what is expected to be an evolving set of opportunities across public and private credit markets over an initial 18-month investment period.”
– Apollo Global Management also took just eight weeks to raise $1.75 billion for its dislocated credit offering, the Apollo Accord Fund III B. The fundraising was driven by institutional demand, with the firm saying the strategy will act “as a liquidity provider during times of broad-based market stress” by purchasing high-quality mispriced credit risk.
– HPS Investment Partners, a $60 billion private debt investment specialist, raised more than $1.5 billion for its second European Asset Value Fund, which will focus initially on originating asset-backed loans and leases to small and mid-sized European enterprises, before expanding beyond Europe.
“We believe that the current market conditions will afford us the opportunity to acquire a highly diverse pool of performing assets alongside related origination and servicing platforms in order to deliver attractive risk adjusted returns to our investors while providing capital to the SME community,” the co-portfolio managers said in the firm’s April statement.
– Hedge fund Marathon Asset Management is reported to have raised $500m for its distressed credit funds.
– Bahrain-based alternative investment manager Investcorp received €340 million in commitments for its new Italian NPL Fund II, which will target non-performing loans secured by residential and commercial real estate in Italy.
A propitious investment landscape is only one consideration though. Having the knowledge and resources to both manage and account for the assets, and meet the tough due diligence examinations and ongoing servicing requirements that the growing cohort of institutional investors bring to the market, is another.
Infrastructure with a competitive edge
Managing and servicing the multiple flavors of private debt, with all the associated accounting, valuation and reporting demands, requires particular operational expertise and technology capabilities. Relying on spreadsheets or legacy systems—still a common feature in many firms—no longer cuts it.
Along with strong investment performance, investors want frequent, often bespoke reporting that provides clear, granular transparency into a fund’s management and the returns generated. Investors also expect watertight compliance capabilities, technology and cybersecurity resilience, and robust business continuity and disaster recovery protocols.
Portfolio management and investor accounting need to be tightly integrated to provide detailed look-throughs to the underlying assets—allowing investors to see their portfolio constituents and extended internal rate of return (XIRR) by investor and investment. Each fund’s committed capital and unfunded commitments, along with the associated management fees, must also be tracked and calculated. Risk management capabilities that can reflect the vast number of what-if scenarios and shock testing are key.
At SS&C Advent, our multi-asset class tools accommodate all types of credit, and allow both the management and full accounting to be performed on one system. Tasks are made still easier with our workspace functionality, which enables users to manage their entire private debt operations through a single screen.
Scalable, repeatable, resilient, and automated processes are vital to ensure firms, whether specialized private credit managers or multi-asset class funds expanding into private debt, have the on-tap capacity to profit from the emerging opportunities, wherever they surface—enabling managers to be flexible and manage the associated risks and investor service demands without bulking up operating costs.
By Roger Woolman