Jonathan Armitage

Colonial First State has retained Kohlberg Kravis Roberts (KKR) as an asset manager to into private debt as the $151 billion asset-owner looks for diversified opportunities to generate returns in a shifting interest rate environment. 

KKR owns 55 per cent of CFS, which it acquired from Commonwealth Bank of Australia in late 2021. KKR is also proposing to acquire the corporate trust and wealth divisions of ASX-listed Perpetual in a $2 billion-plus deal, subject to Perpetual shareholder approval. 

Armitage says the mandate to manage private debt investments for CFS is with a separate part of the KKR business, and in any case, KKR has been retained to invest primarily in Europe and the US. 

“We specifically excluded Australia from that mandate,” Armitage tells Investment Magazine. 

The ultimate size of the mandate awarded to KKR has not been disclosed, but CFS says it is “sizeable” and will be funded in the second half of the year. CFS manages about $116 billion of superannuation and pension fund assets, and about $35 billion of non-super assets. The exact allocation to private debt will vary across the range of CFS products, but as an indication, its Essential Super Lifestage 1965–69 option will have a strategic allocation of 2.2 per cent. 

Armitage says CFS has not been overly prescriptive about the industries or sectors it wants KKR to invest in, and he expects the manager to deliver CFS an exposure “diversified by industry and sector, as well as geography”. 

“We’ve not said we would like a focus in one area or another, or equally, not a focus,” he says. 

“But the area and the types of organisations [they invest in] have been in industrials, health care, some parts of technology, but not all.” 

Environmental shift

Armitage said there has clearly been “a change in the fixed income environment in the last couple of years”, which has been a catalyst for CFS’s diversification into private debt. 

“Yields have changed quite dramatically across major markets, but also the various sectors of fixed income, to become a lot more attractive to a wide variety of investors,” he says. 

“There’s also another issue, which is that our expectation is that inflation data is going to continue to be more volatile than I think markets will probably like, and certainly are discounting.  

“And therefore, the chances are that you will see more elevated interest rates than we have done for the last five-plus years, where the cost of capital was incredibly low, if not close to zero.” 

Armitage says CFS believes private credit offers opportunities for investors prepared and able to take a medium- to long-term view. He said its attention will be focused on “the higher end of it in private debt lending, and by that I mean, that’s companies with EBITDAs north of $100 million”. 

“First of all, there are fewer players in that part of the marketplace,” he says. 

“The size of the loans there requires you to be a major player. We also think that those companies tend to be pretty well diversified, and so much better able to withstand economic buffeting. And we think that the prospective yields remain very attractive.” 

Armitage said CFS would allocate to private debt primarily from its existing cash holdings and, to a lesser extent, from listed real estate. 

“As you’ve seen rates adjust, we’ve been able to make some adjustments from a portfolio perspective, but the bulk of it’s come from cash,” he says. 

“But that’s also allowed us to broaden the type of fixed income components or building blocks that we have in our investment portfolios. 

“And one of the things that we’ve been doing is starting exposure to private debt.” 

The move also marks a deeper move by CFS into unlisted assets, an area that the company’s profit-to-member competitors have been active in for many years. 

“We think that we can add investments into our portfolios or less liquid investments but not change the overall liquidity profile of the various investment options that we have. 

“I’ve been at CFS a little over 18 months now and during that time we’ve built up skills and expertise within the team to look at these types of assets, and believe that they’ve got a very important role to play in producing really good returns for our members and clients.” 

Opportunistic and strategic

Armitage says extending CFS’s asset allocation into private debt is a move to expand its portfolio construction options across a range of products in an investment environment he says will look quite different from the past decade. 

“In order to continue to produce really good returns for our members, we think we’re going to have to construct our portfolios in a different way than the industry has done over the last 10 to 15 years,” he says. 

“The process doesn’t change, but in the way that you build [and] put your portfolios together, diversification will become a very important component within that.” 

“Most securities are driven by the economic environment that the companies are operating in. What private debt can do is provide you with some flexibility for different interest rate environments. Because they’re floating rates, you have the potential to benefit, depending on the movement within those rates. Plus, the diversification of you may well be ending up lending to organisations which have got different end markets from buying a listed security.” 

Armitage says that as well as taking advantage of the opportunities presented in private debt, there are opportunities in other unlisted areas, including infrastructure. 

“We think it’s an interesting time to be able to commit money into this area,” he says. 

“Obviously, our starting point is slightly different to some of our peers.  

“There are a number of assets that look interesting in the data area; energy transition – now, that covers a number of different areas, but some of the investments that we’ve made in the recent past have been waste to energy [and recycling].  

“Selectively, we think that those continue to be very attractive areas to commit member capital to because, again, you’re talking to talking about diversification; but also partnering with organisations where who can genuinely add value to the assets that they’re buying. So one of the areas that we are not committing capital to is areas which are very heavily regulated.” 

Armitage says CFS’s infrastructure investments will be both opportunistic, to take advantage of pricing anomalies, but also strategic in committing capital to new assets. 

“We’re being open-minded to the opportunities that sit there,” he says. 

“But in the last 18 months or so, we’ve seen a much wider range of opportunities being shown to us. And that’s tied in with just a different view about these types of unlisted assets. 

“CFS have had exposure to unlisted infrastructure for a wee while. But…we’re seeing that those opportunities continue to be very attractive in the overall investment environment than we’re looking for. And so that is an area that we are interested in committing more capital to over the next two to three years.” 

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