LPs still see bright future for private debt performance: reports

Two more studies show a plurality of LPs expect to increase their private credit allocations.

A pair of studies from Hamilton Lane and Intertrust are just the latest to underscore limited partners’ continued infatuation with private debt, giving private credit managers ample reason to be sunny about their asset class.

Both reports showed the polled LPs appearing next to certain about the likelihood of positive performance for the asset class. None of the investors polled anticipate private credit having negative returns, according to Bala Cynwyd, Pennsylvania-based Hamilton Lane’s study. Just 9 percent of investors surveyed by Amsterdam-based Intertrust said returns for the asset class have fallen short.

“A prudently diversified portfolio of credit funds posting negative overall returns is statistically close to zero,” said Drew Schardt, a managing director and global head of private credit at Hamilton Lane.

The reports both showed about one-third of LPs anticipate increasing their allocation to private credit. Hamilton Lane’s study showed 31 percent of investors saying as much, while that number for Intertrust stood at 36 percent.

Some 31 percent of LPs also told Hamilton Lane that they would consider investing in buyout funds, such as those targeting the mid-market, other than large-cap vehicles. Private credit and “other buyout” vehicles were the portfolio sections to which most LPs planned to increase their exposure. One-third of LPs said they would decrease their allocation for large buyout funds.

Direct lending, according to the Intertrust survey, was the favourite strategy of LPs, with 55 percent saying that strategy was their focus.

“Investor appetite for private debt appears as strong as ever,” Paul Lawrence, global head of fund services at Intertrust, said in a statement. “Barring any unforeseen events, we can expect to see the most popular strategies such as direct lending attracting large volumes of capital particularly from pension funds and insurance companies seeking yield.”

Senior debt is often the targeted investment of direct lending vehicles. It made up the plurality of capital raised last year by private debt managers, $69.7 billion of the $180.1 billion raised in 2017, according to PDI data. Many of those loans are performing credit and privately originated by alternative lender.

“On the origination or performing credit side of the asset class, you’re typically investing in the most senior parts of the capital structure,” Schardt said. “If you look at how those strategies perform in the downturn, not only does it protect the downside better than equity, but private credit actually recovers value quicker when you come out of the crisis [than private equity].”

As the asset class has continued to grow, one of the growing pains for LPs has been figuring out how to benchmark it. While common bases are leveraged loan indices with the addition of a few hundred basis points to account for the illiquidity premium, there is yet to be a definitive consensus.

“The right benchmark to use is a hard question for boards and trustees,” Schardt said. “Family offices can be a bit more nimble in this respect.”

Hamilton Lane is both an advisory firm and an asset manager. The firm’s most recent private credit vehicle, Hamilton Lane Strategic Opportunities Fund 2017, raised $435 million, exceeding its $250 million target. For its part, Intertrust provides fund administration service provider and regulatory compliance assistance.