Safety-first investors anticipating distress

As part of PEI’s wide-ranging LP Survey for 2016, some 93 respondents shared with us their views on the private debt asset class. Nearly half of these organisations were based in Western Europe (47 percent), while 39 percent were located in North America and 6 percent in the Middle East/Africa.

Almost two-thirds (65 percent) of all investors selected corporate debt as a preferred area of investment, while 31 percent liked a diversified approach, 24 percent real estate debt and 22 percent infrastructure debt (respondents were allowed to choose more than one category). Among North American investors only, a diversified approach was selected by 52 percent and corporate debt by 43 percent.

Below are several observations that arose from the survey:

1. Investors are playing it safe

What do you do in unpredictable and volatile times such as these? For investors in the private debt asset class, the answer is to migrate up the capital stack in search of the relatively safe and more reliable options. Asked to name an area they would not invest in, the smallest number said senior debt. This strategy has the largest number of LPs saying their allocation would remain the same, while also seeing a relatively high number looking to increase their allocations.

Subordinated debt/mezzanine and distressed debt are also set to receive significantly increased allocations based our sample. By contrast, higher risk/return niche areas such as venture debt and royalty financing appear to be out of favour with most investors.

2. Asia Pacific is dividing opinions

Investors appear to be fairly fixed in their opinions when it comes to the merits or otherwise of private debt investing in certain parts of the world. In the established regions of North America and Western Europe, a large numbers of investors appear keen to preserve their current levels of commitment – with more prepared to increase their allocation than not invest at all.

At the other end of the spectrum, Central & Eastern Europe, Latin America and Middle East/Africa all appear largely off-limits, with most of the sample declining to invest there. The region about which investors seem to be most undecided is Asia Pacific. Compared with North America and Europe, a significantly larger number say they will not invest there. On the other hand, Asia Pacific is the most in-demand area for those looking to increase their allocations.

3. Europe is all set for distress

Our survey showed a notably high level of support for distressed strategies, with 93.5 percent of respondents saying they would either seek to maintain their current level of exposure (70.5 percent) or increase it (23 percent). Only 6.5 percent of investors said they would be seeking to lower their allocation to the strategy.

By far the most popular regions for executing the strategy are Western Europe and North America, with 41.5 percent saying they saw the best distressed opportunities in the former and 37.7 percent the latter.

Given the ongoing turbulence in the sector, it is not too surprising that energy/oil and gas was cited as the greatest distressed debt opportunity by almost 80 percent of respondents. Other sectors in the distressed spotlight include natural resources, retail and financial services.