Hyundai Marine & Fire Insurance and Fubon Hyundai Life favour direct lending among the broader private credit investment spectrum, as the strategy can help deliver the best risk-adjusted returns in an uncertain environment.

“Investors in Korea really love direct lending, especially investing [through] senior secured notes. They want to get senior positions in the capital structure, low volatility, expectation of periodic cash coupons,” said Oh Inn-Chul, senior manager at Hyundai Marine & Fire Insurance, which has $31.5 billion of assets under management.

Oh Inn-Chul, Hyundai
Marine & Fire Insurance

The preference for this relatively “stable and boring” strategy was primarily due to the strict investment regulations to which insurers and banks have to adhere, said Oh, while participating in a private debt-focused panel in AsianInvestor's Global Alternatives Week: Korea online event last week.

Pension funds and credit unions have relatively less stringent regulations, and so they can target higher returns through riskier types of private credit investment, he added.

Financing demand in private credit has increased, and now is the optimal time to add this strategy to improve portfolio diversification, he added.

Wan Shun-Park, deputy general manager at Fubon Hyundai Life Insurance, who was speaking on the same panel, offered similar views.

“Direct lending will be the main focus going forward for Korean insurance companies [among the different types of private debt],” he said. Fubon Hyundai Life has $14.5 billion of assets under management (AUM).

Many general partners (GPs) have been raising large amounts of capital from Korean insurance companies, providing this type of structure, he said. The investment return of direct lending varies from region to region. Park said he is expecting a return of 6.5% for the European market and 8% for the US market this year.

“Private debt has consistently given investors access to higher returns coupled with lower risk compared to high-yield bonds or broadly syndicated leveraged loans,” noted a report released by Mercer last month. The 10-year return for US senior direct lending is 8.7%. 

According to the report, the entire private credit market stood at $848 billion as of the first quarter of 2020. It has more than doubled in size in the last seven years as banks face regulatory crackdown on their lending activities after the global financial crisis, but travel restrictions amid the pandemic have slowed fundraising activities in 2020.

MEZZANINE NOT PREFERRED

While South Korean insurers favour direct lending, an online poll conducted among the participants of the AsianInvestor webinar revealed that subordinated capital and mezzanine finance were more popular options. This was followed by senior debt and direct lending. Distressed debt, special situations and specialty financing were the least preferred.

Oh and Wan explained why the other riskier forms of private credit strategies do not appeal to them.

Wan Shun-Park, Fubon
Hyundai Life Insurance

“I’m not [currently] considering the mezzanine or special situation strategies. The main reason that we’re investing in direct lending and the senior note sector is to generate stable cash flows as an insurance company,” Wan said.

“If we see a clear sign of a bull market again, then we’ll consider the mezzanine strategy, but right now, for this year, at least, we’re not considering the mezzanine strategy."

“Quite a similar view that I have…we always want to put more capital on the mezzanine side, but we need to consider the risks,” agreed Oh.

Greg Racz, president and co-founder of MGG Investment Group, who was also in the same discussion, echoed their opinion.

"The problem with mezzanine finance is, at least in the US, investors are not compensated highly enough for the level of risk they assume," he said.

Mezzanine loans are a hybrid of debt and equity financing that give the lenders, or investors, the right to convert the debt to an equity interest in the company in case of default. Even though the returns are generally higher than direct lending, periodic coupon payments are less certain.

NOT ASIA

The speakers believe that private debt investments will continue to be popular among South Korean asset owners in the years to come.

Greg Racz,
MCG Investment Group

The investment environment will continue to be highly favourable for private debt investment as banks continue to retreat from the lending market. The secondary market will remain volatile in 2021, Wan said. Private debt is not subject to the same mark-to-market pressures and volatility associated with tradeable credit markets.

Oh and Wan said they prefer to invest abroad to gain such investment exposure, however, they are selective on regions.

“We’re going to keep focusing on developed countries, North America and Europe [for private credit investments], Wan said. He said that the insurer is in the “early stages of learning curves” on investing in developing countries.

“I totally understand that several Southeast Asian countries have shown resilient economic growth even during the pandemic situation. But still, it’s also true that there is a lack of confidence in developing countries,” he said.

Oh said investors generally do not want to participate in the Asian private credit market despite its ongoing development. The market is immature, lacks track record, and uncertainties of current issuers are still quite high, he said. South Korean investors do not want to have too much exposure in Asian private credit, he stressed.