European mezzanine funds have delivered a total pooled investment return of 1.59x to investors over the last 21 years, according to a report produced by alternative asset manager Partners Group.
Together with surprisingly low default rates – just 1.8 percent of their invested capital was written off on an annualized basis – mezzanine is deserving of more attention from investors, Partners Group argues.
The report, Analysis on loss rates in the European mezzanine market, assessed the performance of 439 mezzanine debt funds in Europe over a 21-year period, and found that aggregate returns never dropped below their combined value in any given year, while total returns amounted to 1.59 times the pooled value of the investments.
However, when the market was at its most volatile in 1991 and 1999, almost a fifth of mezzanine investments exited at a loss. Some funds continued to perform well, though, meaning that even where individual funds performed poorly the total portfolio of funds experienced gains overall.
Partners said this volatility could be “meaningfully reduced” by investing over multiple years.
“Perhaps most importantly, although losses did have a significant impact, all investment years continue to show positive overall returns,” the report said. For the two weakest vintage years, 1992 and 2006, which had loss rates of 13 percent and 13.5 percent, respectively, aggregate returns were still 1.29x and 1.42x.
“The mezzanine asset class not only delivers strong risk-adjusted returns to investors across economic cycles, but also protects returns during rising interest rate environments due to its floating base rates,” said Christopher Bone, senior vice president at Partners.
“Such favourable characteristics of European mezzanine investments can be expected to foster interest in mezzanine as a separate asset class,” he added.
Partners also identified growth in LPs’ appetite for debt investments more broadly, from direct lending to opportunistic credit strategies.
“The ability to enhance returns with fund leveraging, which has in recent months become more available, has certainly been helpful for closed-ended debt funds and CLO funds,” he added.