Investors are turning to private credit for the yield that fixed income used to provide, but some observers worry the sector is too risky to be a stand-in for bonds.
Years of low to below-zero interest rates are taking a bite out of investors' fixed-income returns, pushing asset owners to search for yield. Private credit managers have been a beneficiary of this search for a higher yielding fixed-income proxy. They have a record $199 billion in committed but unspent assets as of June 30, according to London-based alternative investment research firm Preqin.
Two of the biggest concerns cited are illiquidity and the risk of default by the companies receiving the loans from the private credit funds.
“Private credit is not the safety net I consider core fixed income to be,” said Amy Schondra, director and head of the private equ'ity team at outsourced CIO firm Hirtle Callaghan & Co., West Conshohocken, Pa. “I just don't believe that you can sell this as a proxy for fixed income. If you need liquidity it won't be there.”
Investors increasingly are choosing a private equity structure for credit over a hedge fund structure, said Andrea Auerbach, managing director, head of global private investment research of Cambridge Associates LLC in the Menlo Park, Calif. office. “This is concerning,” Ms. Auerbach said. “Investors have to understand the illiquidity they are about to take on.”
Private equity-style funds lack hedge funds' redemption features, she added. “You can't vote with your feet.”
Despite those concerns, investment in private credit is booming. According to a July report by the Alternative Credit Council, a private credit industry trade group that is part of the Alternative Investment Management Association, and Deloitte Consulting LLP, private credit is a $560 billion market, up from $440 billion in July 2015.
New entrants and existing managers are offering a combined 304 private debt funds, targeting a total of $147 billion as of the beginning of the fourth quarter, Preqin data show.
“Increasingly, this (private credit) has been the topic du jour for many of our clients,” said Drew L. Schardt, managing director in the Philadelphia office of alternative investment manager and consulting firm Hamilton Lane Advisors LLC, which has $4.7 billion in non-discretionary assets under management in private credit.
“Given the trends we are seeing with the shifts from fixed income to private credit ... I would expect managers' private credit AUM will outpace the average growth rate” of 10% per annum, Mr. Schardt said.