Leading pension funds moved into private markets years ago, and most other institutional investors (pensions, endowments, foundations etc.) are starting to follow. However, many pension funds, family offices, high net worth individuals, and money manager allocations have still barely considered moves into private markets. Global pension funds moved en masse into private equity in the 1990s and 2000s, and in the last 5 – 10 years have embraced private credit also known as private debt or as we like to call it “Vitamin D”. Private credit is a very small percentage of global debt, however, as central bank policy rates and traditional fixed income returns approach zero, private credit is becoming a strong alternative for investors seeking the attributes of fixed income with a superior return. Historical returns of private credit offer a substantial improvement on investment return over other fixed income alternatives. Leading pension funds were ahead of the curve- will other investors follow?
Over the last 25 years the largest, most sophisticated and successful investors have meaningfully diversified their asset allocations to maintain a consistent expected return. This change in strategic allocation followed on the philosophy of Swenson who has managed the Yale Endowment Fund for decades, reflecting a need to maintain or increase returns in order to meet growing funding obligations.
While private market assets (private debt, private equity and other real assets) were a significant proportion of assets for leading pension funds, this trend has continued to include large managers such as CPPIB (the Canadian Pension Plan Investment Board) who has now allocated over half of their assets into private markets. Traditional fixed income has all but disappeared from some of the large funds to the point where they may in fact be net borrowers, as Calpers recently announced the prospective use of a 20% leverage strategy on their portfolio. While real estate has generally been accessible for money managers and for the average person, private markets have either been difficult to access and /or allocators have been slow to allocate and/ or experienced managers have been hard to find for emerging asset classes. As such, most pension funds and money managers are over allocated in traditional fixed income such as bonds and under allocated in private debt when compared with leading pension fund managers.
McKinsey, in their Global Private Markets Review 2019, notes “Private markets come of age”. Low interest rates of the last decade have prompted substantial growth in the private debt market. With the low interest rate tailwind, private debt still makes up less than 15% of private market assets and less than 1% of total global corporate debt. Continued low interest rates will continue to promote the growth in private markets and specifically in private debt as it catches up to private equity.
Money managers and investment advisors are known to use fixed income as a parking space for capital while they wait to find new waves of equity opportunities. The liquidity, returns and diversification that traditional fixed income offered brought advantages to this strategy. Now in the fight for returns, asset allocation for yield and diversification from equities by small and larger investors alike is increasing. Investors are going to have to weigh the benefits of diversification and return more heavily against the value of liquidity.
Global pension managers have already made their decision. As traditional fixed income continues to produce near zero yields, smaller institutional investors and money mangers will follow the yield that offers inflation protection, capital preservation and capital appreciation.
About Bond Capital Bond Capital is an award-winning private credit fund. As a direct lender, Bond Capital provides advice and money across the entire capital spectrum. Bond Capital structured credit financing enables business owners to maintain control ownership in exchange for yield and capital preservation. Across multiple cycles and for nearly 20 years, Bond Capital has advanced secured investment quality credit to lower middle market companies throughout North America.