This article originally appeared in wealthmanagement.com
Higher-for-longer interest rates, bank stress, tightened lending standards — these are all, on the face of it, perfect conditions for private credit. As banks continue to tap out of risky lending, private lenders have been nabbing even more market share, promising investors relatively higher returns and lower realized volatility. And investors are responding — not just asset management giants like Blackstone, Apollo and KKR, but also wealth managers and family offices.
The private credit market, totalling around $1.4 trillion at the beginning of 2023, is set to grow to $2.7 trillion by 2027, according to estimates[1]. A recent survey by CRISIL division Coalition Greenwich found that 63% of wealth and asset managers plan to increase their allocations to private credit in the year ahead. These investors, looking to diversify risk and boost income, value the asset class’s yield advantage over traditional fixed-income strategies and equivalent-rated corporate bonds.
Looking beyond performance
For wealth managers, though, convincing clients to establish and maintain dedicated exposure to this asset class is no longer as simple as discussing potential performance. Things may have been different a few years ago, at a time of historically low interest rates, inexpensive leverage and limited defaults. But today’s higher rates and costly leverage means the messaging around private credit needs to extend far beyond yield, particularly at a time when the average single B rated US corporate bond offers a yield of around 9%, according to ICE bond index data[2].
Wealth managers must also understand that this market has yet to be tested in a crisis. Private credit loans tend to have floating rates, so while it’s true investors are paid more as rates rise, this also means the most indebted companies may no longer be able to afford their interest payments, leading to rising credit risks. The secondary markets for private credit investments are nascent, so it’s hard to know how many borrowers are under stress.
Bespoke messaging for a custom asset
The universe of private credit is vast, ranging from private corporate lending to consumer finance, real assets lending and structured credit. Exposures can be tailored across a wide array of risk/return profiles through various strategies and vehicles. For High Net Worth (HNW) investors who may not have the same level of sophisticated expertise with private credit as the institutional players, educational messaging pertaining to specific types of credit is critical.
It is up to wealth managers to help their clients understand and navigate the risks that come with higher yields. This includes education around the risk-reward calculus in building a structurally diverse portfolio that is defensive, targeting sectors such as infrastructure, yet opportunistic, for example through distressed situations that are positioned to benefit from credit stress.
All this will better equip HNW investors with the tools they need to optimize allocations across private credit’s opportunity set and lean in on the asset class as a diverse and stable source of income for the long term.
Maggie Duffy is Vice President and Co-Head of the Wealth & Asset Management team at BackBay Communications, an integrated public relations, content marketing and branding firm focused on asset and wealth management, fintech, ESG & impact investing and private markets clients.
[1] https://percent.com/wp-content/uploads/2023/10/Wealth-and-Asset-Managers-Focus-On-Private-Credit.pdf;
https://finimize.com/content/with-yields-topping-13-private-credit-is-becoming-the-next-big-thing
