Private debt is quickly growing from a niche alternative asset class into a core part of many investors' portfolios. And its appeal looks set to keep rising, with the world's low rate environment unlikely to change quickly.  

The catch-all term covers many product types and is only niche in the sense that institutional investors have not historically been big players in it. 

According to Willis Towers Watson, the global listed high-grade government and corporate bond market has about $40 trillion outstanding, while high yield bonds account for another $10 trillion. The illiquid credit market (another way to say private debt) is estimated at $80 trillion. 

“It’s absolutely enormous,” said Chris Redmond, global head of credit and diversifying strategies at Willis Towers Watson. 

While institutional investors have traditionally preferred the extra liquidity offered by public debt, they have become more willing to invest in illiquid investment portfolios to secure higher yields. Insurance companies have been particularly active. 

Private debt offers annual yields of 6%, 7%, or 8% rather than the 1%, 2%, and 3% available in traditional corporate fixed income, Redmond said. 

Typically asset owners invest into private credit via funds of expert funds, as with private equity. Buying into such funds helps regional asset owners to diversify their credit risk.

Illiquid positions

The risk profile of private debt is nonetheless generally higher due to its illiquidity. As a result, Redmond advises Asian investors (which typically have a slight asset emphasis on fixed income investing over equities) to draw down both public equity and debt positions to invest into private credit instruments. 

Perhaps the most popular type of private credit investment has involved the mid-market loan portfolios of banks. Lenders, particularly in Europe, have had to step back from doing as much lending to local companies in order to reduce their capital costs under Basel III rules. 

That’s causing a big funding gap; whereas bank loans historically accounted for about 95% of European corporate funding, today it is around 70%. “Despite the fact we seen $100 billion in fresh demand over the last five years for private debt, it’s still a comparatively small part of market,” Redmond said. 

Asian investors have to date comprised a small part of that total, but that looks likely to change, with Willis Towers Watson already having discussions with investors about investing into the asset class in China, Hong Kong, Malaysia, Singapore and Thailand.

Accessing private debt opportunities is not necessarily an easy step either. Interested investors have different ways to get exposure, be it directly or via expert managers. A set of experts recently told AsianInvestor that many private debt possibilities exist

This article marks the third part of a series focusing on niche alternatives, from AsianInvestor's cover story for its August/September edition. Click here for part one about investors' search for niche alternatives here, and click here for asset owners' thoughts on such investments. Look out for the concluding story, on real assets, soon.