How to build a pan-Asian private credit strategy

As home to 60 percent of the world’s total population and around 40 countries, the Asia-Pacific region includes giant economies such as Australia, China, India and Japan as well as less developed markets like Bangladesh and Cambodia.

With such a broad range of legal systems, risks and opportunities, few private debt funds are reaching beyond one or two target markets, and the most successful managers are those that are flexible enough to act quickly as circumstances change.

Diversity is one of Asia’s key attributes, says Eddie Ong, deputy CIO and head of private investments at Singapore-based SeaTown Holdings, which is part of sovereign wealth fund Temasek. “In Asia-Pacific, markets are generally heterogeneous, so the opportunities move from country to country and sector to sector,” he says. “What we saw in the past was really a focus on the North Asia and China region. Since the Chinese credit crisis, we see a lot less coming out from China simply because the borrowers there are now much more focused on deleveraging and converting their assets to cash.”

Opportunities are increasingly evident elsewhere. “In Southeast Asia, in Vietnam for example, where there is a little bit of stress, that becomes interesting,” says Ong. “In those conditions, we can extract better terms, better covenants and better protections as borrowers, and we get to dictate credit structures that mean we get to juice up our returns and beef up our downside protection to achieve better risk-adjusted returns for our investors.”

Allianz Global Investors is another lender seeking to build a strategy across the region, capitalising on the evolving opportunity set. While it excludes China, the firm divides the region into three buckets, investing equally across Australia, South Asia and Southeast Asia.

“Since the Chinese credit crisis, we see a lot less coming out from China”

Eddie Ong
SeaTown Holdings

Sumit Bhandari, Allianz’s lead portfolio manager in Asian private credit, points to IMF data highlighting the steep growth rates in parts of Asia.

“We see quite a lot of opportunity in India, Indonesia and Australia – three markets with very different business and credit cycles and very different opportunities,” Bhandari says. “But these are big, stable economies that are growing fast, allowing companies to grow into capital structures and creating an opportunity set for private debt funds.”

Bhandari singles out India, where there has been a clean-up of the banking sector, with the corporate debt to GDP ratio declining over time and companies ready to invest in their own businesses. “There are huge capex requirements in that market and we are ready to fund those,” he says.

Indonesia is another promising market. Prudent fiscal policy in Jakarta is delivering good macro fundamentals, says Bhandari, which leads to companies feeling confident around their own futures and their own ability to invest for the long term. Allianz is also seeing refinancing opportunities in Australia and Vietnam.

Allianz lends to mid-market companies across the capital structure and across the capital stack, lending on a senior secured, unitranche or second lien basis at operating company level and providing senior debt to holding companies. “The beauty of taking a regional approach is that these different markets with different credit cycles create opportunities for us to build a good risk-adjusted portfolio,” says Bhandari.

Bifurcated market

For Shane Forster, head of Barings’ Asia-Pacific private finance group, Asian private debt is bifurcated, split between the higher risk, higher returns of developing markets like China, India, Indonesia or Vietnam and the more developed markets such as Australia, which is a core focus for Barings, given the “abundance of attractive deals coupled with the stable economic and legal backdrop”.

“We see quite a lot of opportunity in India, Indonesia and Australia – three markets with very different business and credit cycles and very different opportunities”

Sumit Bhandari
Allianz Global Investors

Forster says: “Penetration levels for private debt are still pretty low in Asia-Pacific, at best around 10 percent versus 60 percent in Europe and near to 90 percent in North America. In Australia, the private debt capital is there and taking market share, and that dynamic is starting to play out in Singapore and Hong Kong. Returns hold up really well.”

Barings has closed 15 transactions over the past year in Australia, its most active Asian market, and also saw steady dealflow out of Hong Kong, New Zealand and Singapore. “Our activity is tied closely to private equity – probably the largest thematic here in private debt is managers like ourselves replacing historically the largest providers of capital in this space, which was the banks. Private equity has a lot of dry powder ready to invest, and private debt is effectively replacing bank capital to finance those deals,” says Forster.

Bank retrenchment

Australian fund manager Metrics Credit Partners targets predominantly sub-investment grade mid-market Australian corporate borrowers across sponsored, non-sponsored and real estate deals. “Our market still remains very much a bank-dominated market and, as a result of continuing regulatory pressure imposed on the banks, they are now looking to withdraw or reduce their lending in certain parts of the market, which creates an opportunity,” says managing partner Andrew Lockhart.

“Our business is quite unique in that we cover everything from investment grade corporate debt through to equity in the capital structure, sponsored and non-sponsored transactions and commercial real estate lending. That allows us to see a range of transaction opportunities and determine where we allocate capital based on the best risk-adjusted returns we can see for our investors.”

“There is no reason why the penetration levels for private debt versus traditional bank finance cannot reach something like the levels we see
in Europe”

Shane Forster
Barings

Right now, he says commercial real estate lending continues to be a big opportunity. “We have had probably 18 months of very slow M&A markets and the IPO markets largely closed, so that has impacted financial sponsor transactions. We would expect that to increase quite considerably as the bid-ask spreads between vendors and buyers are reduced and the opportunity is there to deploy capital. The private equity firms have a lot of dry powder and there is available debt capital to support those transactions.”

Another credit fund focused on the Australian market is MaxCap Group, where group head of capital Robert Hattersley is part of a team heavily focused on the commercial real estate debt opportunity. “The thematic in Australia is around the residential real estate space, where there is a supply-demand imbalance and a significant undersupply of residential property linked to issues of affordability,” he says, pointing to opportunities in areas such as build-to-rent and student accommodation.

“That is well understood across the region and all the solutions have a debt element to them. So, there are a lot of funding opportunities around residential development or construction lending and most investors support living and logistics as the sectors where the underlying fundamentals point to confidence in outcomes.

“What is clear is that the demand for credit is increasing, and that is directly related to growth in these economies. At the same time, borrowers are becoming smarter around knowing who owns their debt. They realised during covid that it is important to have long-term friendly lenders holding your debt because businesses go through bumps in the road as a result of what is going on around them. That has helped people like us that underwrite to hold.”

Local know-how

Still, building a pan-Asia strategy is challenging and requires significant investment in local capabilities. Muzinich & Co, which in June announced the $500 million final close of its debut fund for the region, is a case in point. Kirsten Bode, the firm’s co-head of pan-European private debt, told PDI in September: “The deals work a little bit different. In Asia, more than in any other jurisdiction, it’s important to have people on the ground, as you work much more with asset security and personal guarantees and you need to do background checks to make sure you’re dealing with the right people. So again, having people on the ground is vital – which we have in Singapore, Hong Kong and Australia.”

Metrics Credit Partners’ Lockhart agrees: “Investors in Australia are looking for a local manager that is large in scale with a track record – there is no benefit in going for someone without a significant presence and it is a market where you need boots on the ground to originate quality transaction opportunities.”

For those willing to commit, there are signs of increasing dealflow coming through. “Asia-Pacific private debt was a relatively nascent market up until a few years ago, but it is now becoming more established as a market with a number of players,” says Forster.

“The level of deployment and penetration is still way below what we see as a firm in Europe and the US, so while we are witnessing strong growth in demand, we feel there is a lot of opportunity for a lot more growth. There is no reason why the penetration levels for private debt versus traditional bank finance cannot reach something like the levels we see in Europe.”

The infra opportunity

Across the region as a whole, the opportunities are widespread for funds looking to do more corporate lending

“When it comes to sectors, we are seeing a lot in infrastructure, which includes things like towers, data centres, roads, airports and renewable energy,” says Sumit Bhandari, lead portfolio manager in Asian private credit at Allianz Global Investors.

“Those are big consumers of capital and they continue to need funding, so a large part of our portfolio is in that sector. Then social infrastructure also continues to require a lot of funding, like education and healthcare.”

More broadly, he says there is a lot of demand from mid-market businesses looking to grow. “Overall, people forget that when covid was going on there was a significant level of economic uncertainty, so people didn’t invest in their own businesses. Now it is no longer possible for companies to continue to sit on the sidelines, and with good growth rates and a good macroeconomic outlook in their own countries, we see companies spending,” says Bhandari.