This article was written by Kat Hidalgo. It first appeared on Bloomberg Terminal.
The rapid growth of the $1.7 trillion personal loan market has come at a cost: investors’ inability to part with their holdings in a crisis. A market is now emerging where investors can sell their shares.
Portfolio sales worth up to $15 billion are expected to close this year, according to a new survey from Ely Place Partners Ltd., which advises fund sellers. That’s three times the reported number of deals closed in the previous two years.
The forecast is a vindication for buyers such as Apollo Global Management Inc., Ares Management Corp. and Allianz SE, which has committed billions to new strategies based on the idea that shares in private credit funds can be recycled. On average, the portfolios sell at discounted prices of around 85 cents on the dollar, the survey said.
Sales offering early exits, so-called “secondary” deals, also suggest that the liquidity gap at the heart of the private credit market can be filled.
Investors have rushed headlong into private loans that offer double-digit returns in a bull market but no exit clause in a bear market. That’s raising concerns among regulators about what would happen in a crisis if insurers and pension funds that are in the asset class want to liquidate.
“By and large, most pension funds and family offices that we sell do so for liquidity reasons,” said Daniel Roddick, founder of Ely Place Partners.
Investors, known as limited partners, are trying to liquidate shares as a deal drought slows the revenue they can expect from private equity funds where they also have money parked. In December, buyout firms distributed the smallest amount of cash to their limited partners since 2009.
The deficit has led some limited partners to turn to secondary deals to cash out their investments in both private debt and equity. But there are also other reasons why an investor might seek an early exit.
“We see sellers bringing assets to market due to a number of idiosyncratic pressures, including liquidity needs, active portfolio rebalancing, regulatory changes and CIO turnover,” said Dave Schwartz, head of credit secondaries at Ares.
For limited partners, the advantages are obvious: They can override standard covenants that bind them to private credit funds over a longer period of time.
For private credit managers, the chance to buy shares from rival funds and their investors is attractive, especially as a second weak year for mergers and acquisitions leaves them with fewer opportunities to invest in new acquisition loans.
Managers also pool hand-picked assets in so-called continuation vehicles, which can total $1 billion or more. This allows them to pass early distributions to existing investors and give those willing to redeploy capital the opportunity to buy into the new fund. While continuation vehicles still only make up 20% of the secondary market, participants expect these vehicles to grow.
“We believe continuation tools will accelerate the secondary credit market,” Schwartz said.
According to the Ely Place survey, prices of some deals are getting closer to the fund’s net asset value as more players enter the market.
According to the survey, “hotly contested” portfolios of high-quality senior loans have recently fetched prices near par, or 100 cents on the dollar. The lower discounts should create a virtuous cycle that attracts more sellers to the market and leads to higher volumes, more competition and better prices.
“The good news for sellers is that there is now a group of qualified buyers with the right capital and knowledge about private loans,” Schwartz said.