Five messages from Munich

This year’s version of our Germany Forum in Munich brought together a range of fund managers, investors, consultants, placement agents and others keen to share their experiences and insights into the current state of play in the private debt asset class. So, what was occupying delegates’ minds?

1. German LPs should be hungry but are only taking nibbles

German investors’ traditional investment preferences and goals should make them a natural go-to for managers on the fundraising trail. “It’s more a credit country than an equity country,” as Tobias Ripka, a principal at consulting firm Mercer succinctly put it. 

He added that they favour fixed income, are naturally cautious and don’t necessarily need to record double-digit returns – all factors which should have GPs salivating at the prospect of plenty of the country’s LP heavyweights signing on the dotted line. Unfortunately, it’s not quite that simple.

One obstacle is that many are still not familiar with the asset class. “When I talk to German investors the discussion takes two to three hours and they still struggle to get it,” said Daniel Heine, managing director for private debt at Switzerland-based fund manager Patrimonium. 

They also take something of an upside-down approach, he added: “In Germany there is a focus on returns, which is the wrong focus if you want to invest in credit. You want to focus on risk.” 

Ultimately, there is a sense of frustration that things are not moving further faster. “An allocation of 1 percent doesn’t make sense at all,” said Ripka, noting that this is around the average allocation German investors are making to the asset class. “It’s not moving the needle.” 

2. Insurers going their own way, but fund managers still have favoured status 

Among the pioneers of the German private debt scene is a small group of insurers that have decided to set up their own teams to originate, source and underwrite credit within their home market.  

These investors are often going the direct route to gain access to infrastructure debt, which is seen as a stable part of the asset class, said Hans-Peter Dohr, founder and managing partner of advisory firm ICA. 

It is often a simple matter of economics, he added. “Because of the various low spreads, it is almost not possible to go indirect because the cost of the managers is too big; it is more a feature of the asset class that insurers need to go direct.” 

Overall, however, a clear majority of German investors prefer to access the asset class through fund managers. At the moment, many are doing so through established brand names only. 

“The due diligence is really tough so many will buy the established brands which makes sense, because track record is obviously important,” said Harald Eggerstedt, a senior consultant at advisory firm Willis Towers Watson. 

“There are a lot of new players coming in with interesting products but very little track record,” he added.

3. Brexit could help the development of private debt in continental Europe 

In the wake of the UK’s general election and voters’ apparent unwillingness to endorse a hard Brexit, mischievous observers were subverting Theresa May’s insistence that “Brexit means Brexit” to “Brexit doesn’t mean Brexit”. 

However, those gathered in Munich were told by the Alternative Credit Council’s deputy chief executive Jiri Krol that the UK’s departure from the EU appeared inevitable and, moreover, numerous significant changes were already taking place. 

In anticipation of Brexit, Krol said, the financial services industry has been adapting on the mainland, with third-party passporting put on hold, clearing infrastructure moving from the UK to the continent and tougher substance requirements being devised for asset managers wanting a mainland European presence.

With investors shifting their focus away from the UK, he felt that Brexit could help give added momentum to the non-bank lending market in the rest of the continent. 

However, he also noted concerns over European regulation being too complex and under-developed outside of the UK. He said there were worries around the European Securities and Markets Association’s focus on shadow banking and increasing scrutiny from the European Systemic Risk Board. 

4. It’s all about diversification now

With talk of tightening spreads, pricing pressure and looser covenants, those on stage indicated that the diversification benefits of private debt may now form the basis of a more compelling pitch for capital than one focused on yield. 

“The abundance of liquidity has driven performance very much down,” said Agnes Mazurek, a managing director at MIDIS, the infrastructure debt arm of Macquarie Group. “It’s not just pricing but structure terms. It might be worth taking a pause and asking: how much more aggressive is this going to go?” 

Deborah Zurkow, global head of alternatives for Allianz Global Investors, asserted that “most investors aren’t looking for yield enhancement but diversification”. Moreover, she insisted that structuring a borrowing arrangement to create extra yield is not a unique skill. “The USP for most private debt funds is the sourcing,” she said. “Lots of people can structure things.” 

Abhik Das, a principal at BlueBay Asset Management, said he believed that, by targeting mid-market corporate enterprises, private debt provided exposure to an area of the market investors otherwise wouldn’t be able to access. 

5. It’s not about the cycle, it’s about choices

Despite regularly voiced fears that the lengthy benign credit cycle might be about to turn, the point was made that the biggest enemy lies within – in the form of bad deals. 

With competition increasing, funds will be tempted to deploy capital in credit deals others would turn away. It’s a case of “buyer beware”, especially if funds seem to be offering surprisingly high yields. 

“If you give money to these direct lending funds which offer 8 percent to 10 percent, I’d be wary,” said Nicolaus Loos, managing director at IKB Deutsche Industriebank. While it's reasonable to be concerned about the turn of the credit cycle, funds aggressively going after credit deals should alarm investors, he added.