Private credit has seen exponential growth over the past decade and is now a central component of many wealth portfolios. Yet in recent months the asset class has been generating negative headlines with borrower defaults and credit losses, fears over rising redemptions in some funds and increased regulatory focus all areas of concern.
But the expansion of the asset class shows no signs of stopping, with assets under management in private credit funds predicted to grow from today’s $2tn to $3.4tn by 2030, according to PWC’s Global Private Credit Fund Survey.
The research, released in May, which surveyed more than 120 credit portfolio managers globally, found 80 per cent were expecting to receive increased allocations over the next 12 months, despite all the headwinds the industry is facing. Almost half (44 per cent) expected this to increase by more than 20 per cent.
At the same time, 55 per cent said they were not concerned, or only slightly concerned, by an increase in defaults over the next couple of years. Respondents expected stress to be most acute over the next one to two years in consumer and retail (56 per cent) automotive (42 per cent), hospitality and leisure (27 per cent), and technology (23 per cent).
PwC’s research ties in with The Alternative Credit Council’s new quarterly market health update. Drawing on research from Houlihan Lokey and other industry datasets, it found signs of stress have largely been contained in specific sectors and borrower-size cohorts, rather than spread across the market. Markdowns in software, an area of particular concern, have been contained.
Yet the PwC survey also suggests fund managers now see investment selection, performance, governance and downside protection as increasingly important, and are looking to innovate to attract capital.
The gap between the best private credit portfolio managers and the rest is going to increase, says Mat Falconer, global financial services leader, at PwC.
“Winning managers will be those who can demonstrate they have better underwriting, portfolio management and restructuring capabilities to help deliver attractive risk-adjusted returns through a cycle,” he says.
“In exchange, they will gain investor confidence, setting themselves up for continued strong fundraising and long-term success.”
Winner takes it all
Taken as a whole, private credit remains resilient and continues to attract capital, despite the prevailing media narrative, believes Andreas Klein, head of private debt at Pictet Asset Management.
Yet he stresses the asset class is not homogenous and that there are important nuances under the surface, notably in terms of vintages, geography, market segment and strategy type. “In this context, we will likely see more dispersion to realised performances going forwards.”
Subsequent demand from institutional capital, he believes, will remain strong in areas of the market which remain better insulated from the “noise” and continue to offer stable, attractive risk-adjusted returns. He highlights Europe and the lower mid-market as particular areas of focus.
Managers that operate in more crowded, competitive segments and that have legacy assets that were underwritten in an era of looser lending standards will clearly be more exposed to losses and lower returns
Manager-to-manager dispersion is likely to pick up across the market as the asset class navigates through what is undoubtedly a more challenging phase of the credit cycle, he explains.
Those who focus on more insulated corners of the market and favour robust credit discipline over rushing to deploy dry powder will continue to be able to deliver good returns for limited partners.
“Meanwhile, managers that operate in more crowded, competitive segments and that have legacy assets that were underwritten in an era of looser lending standards will clearly be more exposed to losses and lower returns,” says Klein.
As this dispersion increases, limited partners — those institutional or high-net-worth investors who provide the bulk of the capital for a fund — are increasingly diversifying their exposure to the asset class by looking beyond the main incumbent managers in the market, namely US large cap-focused general partners.
“In so doing, LPs are prioritising strategies that operate in more niche, less competitive segments and geographies that can potentially offer more stable and superior returns, notably on a risk-adjusted basis,” says Klein.