Advisors and investors are beginning to recognize that private credit encompasses a range of strategies beyond business lending, as they seek to take advantage of its strong returns and diversification benefits, according to PIMCO.

As of September 2024, Preqin data suggests that the private credit market totaled nearly US$2 trillion globally.

Addressing the massive growth of the asset class, Kyle McCarthy, alternative credit specialist at PIMCO, noted that its size had almost doubled in the last five years “for very good reasons.”

Among the many advantages of this asset class for end investors, private credit is capable of generating constant and stable income and slightly higher returns than the public market, he said.

“Senior collateral has many defensive qualities and characteristics, at the top of the capital stack, and also provides many diversification benefits to investors,” McCarthy explained.

He also noted that with its growing popularity, investors are beginning to shed the misconception that it is a monolithic asset class.

In October, a global survey conducted by Schroders found that more than half (55%) of financial advisors worldwide said they were already investing in private assets. Another 19 percent said they planned to do so in the next two years.

“Investors are realizing that private credit is no longer just a monolith – it is not just direct business lending, nor is it real estate or commercial lending, but it includes other elements such as on assets. well, it’s a major theme at PIMCO and an area we’ve focused on for over a decade now,” he said.

PIMCO finds “a lot of value” in this space, providing additional diversification beyond direct business lending and real estate.

“[It’s] one area where when we think about the next phase and where this debanking trend is happening or where banks are retrenching or exiting is in this asset-based lending space,” he said.

“So whether it’s consumer credit, mortgages, non-consumer loans or other forms of loans backed by physical assets like aviation financing for example, these are all areas in which we see many opportunities today.”

However, this remains an area that requires skill and expertise, McCarthy pointed out, which warrants a strong focus on manager selection as credit spreads appear relatively tight overall.

“I think investors should ask themselves if there is a growth hiccup or if growth slows, or if we face an unexpected recession, what does that mean for private credit?” he said.

“You are already seeing the first signs of high rates weighing on borrowers. Payment in Kind, or PIK as they call it, which is a leading indicator of potential future stress, basically happens when you take out a loan and the interest, instead of being paid in cash, is added to the loan balance. So in many cases, we just abandon the project, and we start to see this seep into more and more private credit portfolios.

“Again, [it’s] something to watch, not necessarily at alarming levels at the moment, but something important for investors to keep on the radar.

Money Management has previously explored the crucial role of manager selection in achieving optimal returns in private markets, given the significant differences between these types of funds and their listed counterparts.

Speaking at an Institute of Managed Account Professionals webinar last month, Fred Pollock, investment director at GCM Grosvenor, highlighted the distinct qualities of private equity and private credit managers, describing them as “almost spiritually different animals” in terms of the place they occupy. capital structure.

PIMCO’s McCarthy echoed this sentiment, explaining that manager selection is paramount.
“Look at the track record, look at the history of the industry, whether they have teams in-house to work on restructurings and potential credit distressed assets,” he said.

“The market has not yet been truly tested in terms of the distress cycle, so this is an important question for investors to ask themselves.

“I would just encourage them to think carefully about selecting managers and making sure they partner with someone with a lot of experience.”