Seven in 10 LPs responding to Private Debt Investor’s LP Perspectives 2021 Study would like to maintain or increase the number of managers they work with. But with covid restrictions making it harder than ever to access new GP relationships, investor appetite for diversification looks unlikely to be met, with the big private debt funds only getting larger.

“There are a number of factors that play into the hands of the larger managers at the moment,” says Richard von Gusovius, co-head of global private credit at Campbell Lutyens. “As private debt continues to grow its share of LPs’ allocations, the larger players are well positioned to take a disproportionate share of new allocations as LPs do not see the benefit of additional GP diversification in direct lending, where differentiation is marginal. Differently put, it often doesn’t make sense to add a seventh or eighth direct lender to your portfolio because they are all doing much the same thing.”

The latest edition of PDI’s Global Investor 30 showed the total capital commitments of the top 30 private debt managers had grown from $230 billion to more than $300 billion in just 12 months.

“There is a benefit from limiting the number of relationships as it will allow you to drive better economic terms that way, including access to special co-investment rights,” says von Gusovius. “Finally, when some of the very large institutional investors start to move 1-2 percent of their AUM into private debt, that is a lot of money to deploy and that also favours the large platforms.”

Stick to what you know

In a time of pandemic, there is a natural tendency towards existing relationships and new managers have found it hard to get traction. Nearly half of the LPs surveyed say they do not invest in first-time managers. A further 22 percent say they would be less likely to invest in a debut fund now than they would have been during the previous 12 months.

That reticence is in part a result of satisfaction in the way GPs have navigated the current crisis. More than half of investors say they are confident that their GPs’ deals have been structured sensibly enough to withstand the downturn. Furthermore, 50 percent say GPs are remaining disciplined and sticking to their investment theses – only 27 percent felt the same about GP behaviour going into the crisis a year ago. In all, only 3 percent of investors have observed widespread examples of ‘style drift’ among private debt managers.

Joss Trout, head of the investment specialists group at Tikehau Capital, says: “One of the misconceptions was that, in the event of a downturn, direct lending portfolios would be severely impacted because there was not enough diversification to provide resilience, with too much focus on mid-market companies and local markets. In fact, when you look at the mid-market companies that asset managers have focused on, they are often very diversified in terms of the geography of their operations, scale and sectors.”

Nearly eight in 10 investors are happy that they have seen sufficient information coming from GPs to enable them to adequately assess the performance of their private markets investments. Many managers upped their game on LP communications during 2020.

Nevertheless, IHS Markit managing director Elina Gokh believes managers will need to further focus on data and transparency. “We’re seeing increased need for data transparency, timeliness and accuracy,” she says. “Managers need to track and monitor the impact of decisions on their investments, to understand their investments’ risk profile, and to identify where additional time and attention is needed.”