More non-bank investors are tapping into the private debt market and are increasingly chipping away at the client base for conventional commercial lenders in North America and Europe over the past decade in the wake of the financial crisis in 2008.
Borrowers abound, ranging from acquiring entities in leveraged buyouts to small and midsized enterprises, financially distressed companies or entities executing special situation strategies. Investment strategies are becoming more sophisticated, depending on the assets’ risks implied or on the way the fund is being structured.
The amount of capital raised for private credit investment came to $112.7 billion from 109 funds globally in the first three quarters of 2019, showing a continuous demand, compared to $114.9 billion in 2018 over the cited period, according to data from Hong Kong-based publication Private Debt Investor.
Korean investors, -- both institutional investors as limited partners and asset managers as general partners -- are increasingly jumping on the global bandwagon, seeing a constant rise in the commitment and the ticket size for a single deal.
Representatives of major Korean LPs -- Willis Towers Watson Head of Investments in Korea Andrew Shin (from left), KDB Life Insurance Heald of Global Investment Team Lee Yoon-pyo, Hyundai Marine & Fire Insurance Head of Private Equity Team Kwon Yong-gwan, Meritz Fire & Marine Insurance Head of Asset Management Department Yang Jung-yong, Shinhan Life Insurance Head of Investment Banking Division Woo Suk-moon and Korea Post Savings Senior Portfolio anager Um Yoon-chan -- discussed their local view on private credit at a panel session during Private Debt Investor Forum: Seoul 2019 Nov. 7.
Held on Nov. 7, PDI’s Private Debt Investors Forum: Seoul 2019 at Westin Chosun Seoul offered some 200 audience members a glimpse into how Korean institutional investors and asset managers have increased exposure in the private credit market as a means to alternative investment to cope with the economic slowdown on the run.
According to an estimate by PDI, a subunit of financial media group PEI Media, investment committed to private debt instruments rose by $1.6 billion from 2014 to 2018 from Korea’s seven major institutional investors -- Construction Workers Mutual Aid Association, Government Employment Pension Service, Hyundai Marine & Fire Insurance, Korea Post, Korea Teachers Pension Fund, Military Mutual Aid Association and Public Officials Benefit Association.
“Korean investors have already been through a basic step to understand and learn about the global private debt market,” said Lee Yoon-pyo, head of the global investment team at KDB Life Insurance. “Now it is time for us to increase our exposure.”
Safe haven or hotbed of uncertainties?
To address signs of a slowing economy, investors are showing appetite for private debts that will serve as protection from widening volatility in the equity market, senior-level officials of Korean institutional investors said during the PDI Forum in Seoul.
“Equity valuation is relatively high in the long term basis, so we are paying attention to the increase in the private credit business for safer and more stable management in terms of the long term basis,” Hahn Young-seok, director of private equity at Korea Investment Corp., said during the event.
Amid resurfacing global expansionary fiscal policies, coupled with signs of lukewarm economic growth, private debt could be a safe haven, considering its nature of illiquidity, Yang Jung-yong, head of the asset management department at Meritz Fire & Marine Insurance, told the audience.
“Low interest rate is expected to continue, so we need to make up for this with returns from illiquid assets like private debt,” Yang said. “In 2020, we believe that there is going to be a moderate slowdown in the global economy. Going through the late stage of the upcycle, chances are high that a slowdown in manufacturing might spill to consumption and employment.”
Some other investors, however, shared lingering uncertainties in private debt investment, especially in terms of finding the right partners.
In September, Korean investor JB Asset Management and investment bank KB Securities were found to have fallen victim to an alleged fraud involving some $400 million in what was believed to be an apartment construction plan in Australia and accused Australian borrower LBA Capital of misappropriating money and forging documents.
“The biggest homework (for both GPs and LPs) is finding the best partner to work with at the spot,” said KTB Asset Management Executive Vice President Lee Hak-ku.
“When we invest in overseas private debts, there will be a language barrier and difference in legal system that leads to a huge interpretation gap between us and our partner,” said Cheon Byung-kyu, chief investment officer of DGB Life Insurance.
Cheon added that as a Korean insurance firm, the investment decision of DGB Life Insurance as an LP is prone to state regulation.
“It is crucial to take into account how far the regulation is, how strict it is, how Korean regulations are changing or evolving, what the hurdles are,” he said. “Doing research is needed first and then the investor may approach the potential clients with products that could overcome hurdles.”
Also, the discrepancy of the investment team’s opinion with decision makers causes a drag on private debt investment, as these strategies divert from their traditional investment destinations like stocks and bonds.
“Many LPs shy away from investment in distressed or special situations, because it is hard to understand and it is hard to persuade our investment committee or senior management to commit to this strategy,” said Kang Tae-bok, team leader of Hanwha Asset Management.
Portfolio allocation: North America-heavy or Europe-heavy?
Private debt investors here have been in search of opportunities for such instruments in North America and European countries -- where a combined nine out of 10 private debts seal commitment as of end-September -- turning away from the domestic financial market where borrowers, like in other major Asian financial markets, largely rely on conventional financial institutions for loans.
With regards to their geographical exposure, however, Korean investors were mixed between North America-heavy and Europe-heavy.
A weaker local currency against the US greenback has left investors here refraining from US debt investment, some investors said.
“Foreign exchange risk hedging is a key factor, since it has a big impact on the Korean won denominated return,” said Lee of KDB Life. “The US market is now a discount market and Europe is a premium market, but that is what we are seeing only for now. I doubt it warrants this way of decision making.”
“Hedging US dollar investment comes at a premium cost, so increasing investment in North America is not easy,” said Kwon Yong-gwan, head of the private equity team of Hyundai Marine & Fire Insurance. “For the direct lending, we have been mostly doing on the European side, but for the absolute yield, North American is a bit stronger.”
On the other hand, Woo Suk-moon, head of the investment banking division at Shinhan Life Insurance, said its debt portfolio is US-biased, citing fundamentals of US companies.
“About 85 percent of investment goes to (assets in) the US. We can buy more debts in Australia and Japan, but we are not just doing it overnight, because the fundamental is quite strong in the US,” Woo said.
Lee Hak-ku, the executive vice president from KTB Asset Management (from left); Philip Yoon, the former head of oversea corporate finance of The Korean Teachers’ Credit Union and Cheon Byung-kyu, chief investment officer from DGB Life Insurance shared their perspective on Korea’s fundraising environment at a panel session during Private Debt Investor Forum: Seoul 2019 held Nov. 7.
By Son Ji-hyoung (firstname.lastname@example.org)