With traditional debt providers pulling in their horns and investment periods for European CLOs expiring, senior debt is not easy to come by at the moment.
Enter Zug-headquartered Partners Group, which said in September that it had raised its debut €375 million credit fund, to meet increased demand for private debt. Partners has been investing in private debt since 1999, but has never had a separate fund dedicated to the strategy. The firm said it was “witnessing a transition in global credit markets” in which “private providers of credit can benefit significantly from the lack of alternative capital”.
Other firms are seeking to benefit from the credit gap, too. Also in September, Intermediate Capital Group (ICG) said that its special credit fund – the €65 million Total Credit Fund, which combines senior secured loans and high yield bonds in one credit portfolio – had been fully invested after just six weeks. Ares Management has also recently raised its second European debt fund, while 3i’s debt management arm agreed a joint venture with US-based debt manager, WCAS Fraser Sullivan Investment Management, to tap into the US credit markets.
These funds are not just providing debt to portfolio companies; they’re also financing other private equity deals. In September, the debt arm of AXA Private Equity alongside Capzanine arranged a €37 million mezzanine financing for private equity firm 21 Centrale Partners, which was buying camp-site provider Village Center. This amounted to about 15 percent of the overall financing (which also included roughly 40 percent of senior and operational debt, 21 Centrale Partners said).
So is this good news for investors?
One downside is the possibility of double exposure. Last year, 3i Group invested in a Dutch retailer called Action. The €375 million financing was underwritten with debt provided by Rabobank, which the bank distributed in the syndicated loan market. 3i Debt Management bought some of this debt, so it’s now a lender to Action.
3i insists it has strict rules in place to prevent any conflicts of interest. And it’s true that the market has become much more comfortable with arrangements like these. “Everybody understands that they are different pockets of capital,” says banking partner Anil Kohli.
However, other firms – including Partners Group – have chosen to ensure that the credit fund has no exposure to the firm’s private equity activities.
In the past, sub-investment grade debt investing has perhaps been misunderstood by investors, says Garland Hansmann, portfolio manager at ICG. “Investors would invest only one or two percent of their capital in high yield. They didn’t want to worry about it. [But] as it becomes more difficult to make returns, it looks increasingly attractive.”
Several big LPs have committed to debt strategies this year, including the New Hampshire Retirement System, which said in September that it had increased its allocation to alternative investments from 10 to 15 percent, to include a 5 percent target allocation to private debt.
“After spending several months reviewing capital market assumptions and historical performance we felt that there were better opportunities for [good] returns in alternatives including private debt rather than staying in a 30 percent fixed income portfolio,” a spokesperson said.
In a market where credit supply is constrained and returns on equities look much less promising, it’s no wonder that investors are increasingly alive to the opportunities on offer from debt-related strategies. GPs will just have to hope that’s as well as, not instead of, their private equity fund commitments. Or there might be no deals to fund. ?