Direct lending and private debt can offer better returns than equities as an institutional asset class, giving investors access to a growing alternative debt market with attractive risk profiles, the local head of Intermediate Capital Group says.
Matthew Turner, head of ICG’s senior debt team in Australia and New Zealand, says there is a $1.1 trillion addressable market in non-sponsored debt that was not contemplated by non-traditional lenders before banks began exiting the sector following the global financial crisis.
The 2008 credit crisis became a watershed for private debt markets when banks, forced to repair their balance sheets, retreated from the sector.
ICG invests in companies across Europe, the US and the Asia-Pacific region, either as the lead arranger or the sole lender, with the aim of providing attractive risk profiles and stable cash yields.
In Australia, however, investors such as superannuation funds have often viewed private-debt or direct-lending returns as less attractive than equity, Turner said, and have been unsure whether to allocate such lending as alternative credit or fixed income in their portfolios.
Turner made the comments during a presentation titled, “The New Era for Direct Lending” at the 2018 Conexus Financial Real Estate and Private Markets Conference, held in Melbourne last month.
Session moderator Nick Kelly, an investment consultant with global advisory consultancy Willis Towers Watson, said investors should view corporate credit as a growth asset class but alongside other alternative credit strategies, with diversification the key.
He says smaller, niche markets with less competition could provide attractive returns, one whole-loan lending investment in Europe provided net returns of 7 per cent to 9 per cent, in euro, before swapping back to Australian dollars.
“There are plenty of small, niche opportunities where there is less competition; it’s just investors getting their head across the opportunity set,” Kelly said.
Turner argued that while the Australian private debt market has grown via a diverse range of non-traditional lenders, it remains less competitive than the US − which has the most mature non-bank lender market and has experienced spread compression.
Lenders tend to compete in Australia on the types of debt deals, he said.
“When we started this business five years ago, our addressable market as a senior debt provider was finance to support private equity with leveraged buyouts. That was the whole market,” Turner said. “We were investing alongside the banks because they owned the market; they had it all and it was very structured.”
Now there are diverse opportunities, such as uni-tranche transactions for senior and subordinate debt, capacity for the market to absorb US Term Loan B structures such as the recent Ventia transaction, and mezzanine providers looking to take on more equity as a portion of their returns, Turner said.
“Given the numbers of providers in the (Australian) market, it’s rich pickings,” he said. “You can comfortably go and command very good returns for offering flexibility for any or all of those different structures.
“But there’s not the same competition in Australia as offshore…We welcome more players into the market because it increases the depth of where we can go.”
Turner said non-traditional lenders such as ICG have stepped up to do non-sponsored deals to provide flexibility and simplicity to borrowers. He said businesses in Australia and New Zealand can now choose where to go for their money without getting “the standard big four treatment”, for the first time in corporate Australian history.
Investors also have access to market leaders via direct lending and private debt, because Australia is relatively remote, with a sound economy in which duopolies and monopolies are common.