Investors turn to private credit as key portfolio hedge amid Covid-19 market ruptures

Coronavirus cracks

Private credit managers are on track to provide some USD100 billion of real economy financing this year, as investors increasingly turned to the sector as a resilient portfolio hedge and diversifier amid equity market ruptures during 2020’s coronavirus pandemic.

New research published by the Alternative Credit Council suggests the private credit market has weathered the economic shock brought about by Covid-19, with fund managers now increasingly bullish about the sector’s prospects next year.

The sixth annual ‘Financing the Economy’ report - published jointly by the ACC, the private credit affiliate of the Alternative Investment Management Association, and Allen & Overy – surveyed 49 firms globally, with an estimated combined AUM in private credit of USD431 billion.

The deep-dive study gauged credit manager outlook, investor sentiment, and market opportunities, and explored an assortment of case studies on how such capital is being deployed.

Private credit managers will have provided some USD100 billion to small-to-medium enterprises (SMEs) and mid-sized business by year-end, in line with 2019’s total lending volume, the research showed – underlining the importance of non-bank lending during the Covid-19 downturn.

It found that credit managers are optimistic despite continued economic uncertainty: more than 80 per cent of survey respondents are either ‘somewhat bullish’ or ‘very bullish’ in their appetite to deploy capital over the next 12 months.

At the same time, close to half of those quizzed (44 per cent) say distressed debt opportunities will peak in Q1 2021.

The findings also indicate that continued economic uncertainty amid Covid-19 - coupled with low interest rates – is helping drive investor appetite for this particular corner of the alternative investment universe, while traditional fixed income assets have struggled.

“Investors have also faced increased volatility across their equity portfolios and reduced yields in their fixed income allocations. Private credit has helped investors address these two challenges by providing diversification, acting as a hedge and offering them assets that can generate income,” the report observed.

“The ability of private credit managers to deploy new capital and protect value in their existing portfolios during the pandemic has demonstrated that the sector can perform well during a downturn.”

The study acknowledged how Covid-19 restrictions, social distancing and lockdowns put the squeeze on investor due diligence and relationship-building this year, with private credit commitments in Q3 2020 reaching USD110 billion, down from USD150 billion in the same period last year.

But the ACC expects allocations to private credit will “largely end up being displaced to later in 2020 or early 2021 rather than being directed towards other asset classes” as the industry has become more comfortable with new working environments.

“Private credit managers have stepped up and proved their value in 2020 by continuing to support existing businesses and lend to new projects, despite the substantial disruption in the economy,” said Jiří Krόl, global head of the Alternative Credit Council.

“Private credit provision will drive the recovery in the mid-market sector as traditional sources of finance will continue to retrench. So although it may be still too soon to tell, the early signs point to the industry passing an important structural stress test, and doing so without the levels of government support provided in the public markets.”

Sanjeev Dhuna, partner and head of direct lending at Allen & Overy in London, said direct lenders are now a “staple part” of mid-market financing, and have a growing presence in the large cap market.

“We are increasingly seeing direct lenders being considered by borrowers and sponsors alongside underwritten and bank club financings,” Dhuna added. “The direct lenders offer speed of execution and certainty of pricing, and in recent months we have seen these lenders play in the structured financing market, offering liquidity for delayed exits in order to return cash to investors.”