South Korean LPs shifting focus to European private credit

A state-backed pension fund in South Korea, the Government Employees Pension Service, has made an €80 million ($90 million) commitment across two commingled private debt funds managed by Alcentra and BlueBay Asset Management, a source from the pension fund has confirmed.

GEPS previously announced the award of the mandates on 19 October. According to PDI data, Alcentra European Direct Lending Fund III is targeting €2 billion. The pension fund has also made a commitment to BlueBay Direct Lending Fund III, which is targeting €2.5 billion.

GEPS’s recent commitments give clues to the type and size of credit funds it is willing to back. Three other Korean institutions with assets under management of between $15 billion and $25 billion, have confirmed to PDI  they are seeking private credit fund investment opportunities across senior secured debt, mezzanine, and direct lending strategies in Europe.

PDI has learnt that another Korean institutional investor, Police Mutual Aid Association, invested $30 million apiece in two private debt funds in the region in the past 12 months as of 21 November.

Mid-market direct lending funds have garnered more traction from Korean institutional investors over the past 24 months. For instance, Park Square Capital, a London-headquartered private credit manager, has won mandates from Korea Post, Public Officials Benefit Association, PMAA and Construction Workers Mutual Aid Association, among others.

Two investor sources said one reason direct lending funds are gaining more traction is that many Korean LPs view the asset class as an alternative to traditional fixed-income assets, with a higher risk-adjusted return rate.

According to Janghwan Lee, executive director and team leader of the alternative investment team at Lotte Insurance, his team has started investing in private debt strategies since 2016 as they believe the interest rate in the market rise in the US.

“I expected that we could capture an opportunity of increasing our expected return [by committing to a private debt strategy] as underlying assets of private debt funds are broadly ranged,” he added, speaking at PDI Seoul Forum 2018 in November.

Geographically, the insurer has invested in the US and European countries. However, Lee says that most of the Korean investors now have an investment preference in Europe.

“The [foreign exchange rate] difference between US dollars and euros [against Korean won], given the same credit risk profile, is around 150 basis points, which is a lot,” Lee notes, adding that, many Korean investors have higher exposure to dollar-denominated private debt funds.

Another Korean institutional investor, Korean Teachers’ Credit Union, has been investing in private credit strategies, including direct lending funds, since the inception of his corporate finance team in 2014.

“I think Korean LPs do prefer credit over equity,” said Kang at PDI Seoul Forum 2018. He says there are three reasons Korean LPs prefer credit. First, it is safer compared with the equity position within the capital structure. Second, the cash component of the credit investment also satisfies the investors. Lastly, credit investors have less pressure on exit strategies.

PDI understands that KTCU targets a net IRR of 8 percent per annum from funds that invest in senior secured loans.

Deloitte’s Alternative Lender Deal Tracker Autumn 2018 shows  direct lending in Europe targets a gross internal rate of return ranging from 5 percent to 10 percent, per annum. The report adds that these commingled funds are typically from five to seven years’ long, with investment periods of one to three years.

Some larger European alternative lenders say they can see the recent shift from Korean investors. But William Nicoll, a London-based co-head of alternative credit at M&G investments, told PDI the European private debt markets got too crowded.

“All the money going to private debt isn’t going across all the private credit [markets]. It is all going to corporate direct lending,” he said, adding that, “for smaller institutions, it [direct lending funds] is still fashionable. But I think some of the larger institutions have started to show concern about valuations and the credit strength of the underlying deals.”