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Why alternative credit is going mainstream in Asia

Private debt and structured credit can provide a wealth of options for investors prepared to look beyond bonds.

July 13, 2023

By any measure, the past two years have been disastrous for bonds. Globally, inflation and rising interest rates have eaten into fixed-income portfolios, and a string of defaults in the Chinese real estate sector have reversed the growth of Asian high-yield bonds – a popular asset class among high-net-worth investors.

However, this challenging backdrop for bonds has been a boon for other kinds of credit investments. Away from the public markets, credit funds are proliferating in Asia as investors warm to alternative strategies. While interest rates and default risks are still important considerations, the right structures can satisfy a range of risk and return profiles.

As interest rates near a peak, it’s time for investors to consider making credit a core part of their long-term portfolio.

Record fundraising

Continued volatility in the public markets has bolstered the case for alternative investments. For long-term investors, the combination of lower volatility and an illiquidity premium makes private assets attractive in uncertain markets.

Private credit – including direct lending, opportunistic or special situations, distressed credit and structured credit – offers distinct advantages over public bond markets. Direct lending funds typically invest in floating-rate assets, thereby outperforming fixed-income investments in a rising-rate environment. Their ability to provide flexible terms to borrowers also fills a gap in the market not served by banks or the public capital markets. 

The Asian private credit market has grown from US$3.2 billion of assets under management in 2000 to US$90 billion as of June last year, according to Preqin estimates. The Global Private Capital Association calculates that fundraising for private credit strategies in Asia jumped 42%1 to a record US$11.2 billion in 2022, with Bain Capital, Apollo and KKR among the major launches.

The Monetary Authority of Singapore is also an influential supporter, having committed in September to invest another US$1 billion2 with top global private credit fund managers as part of its now-US$6 billion private markets programme.

Alternative investments

Our alternative investments and services provide opportunities in specialized asset, portfolio or investment approaches. 

The structured solution

Private credit, of course, does not suit every investor profile. Many credit funds come with high concentration risks through investing in a small number of companies or in a particular geography. Liquidity is also a vital consideration in Asian credit, given the fragmentation of the market across multiple countries and currencies.

Collateralised loan obligations (CLOs) seek to overcome those obstacles by offering exposure to a diverse portfolio of loans in a securitised package. The typical CLO structure allows investors to choose the risk level that suits them, with tranches ranging from Triple-A-rated bonds to equity.

CLOs typically comprise senior secured loans, which hold priority of payment over other claims in the event of insolvency. The underlying loans themselves are typically rated and easily tradable, allowing CLO managers to continually refine their portfolios to suit their risk-return objectives, in contrast to private credit where assets are usually unrated and held to maturity. Moreover, CLO funds are highly diversified, as each CLO portfolio typically contains at least 150 loans across many sectors, and the correlation with other fixed-income assets is low.

According to S&P Global Ratings, there have been no defaults3 of CLO tranches rated BBB or higher since rating agencies introduced tighter requirements following the 2008 global financial crisis. CLOs generally offer higher credit spreads and have experienced much lower default rates than corporate bonds with the same rating, even during the credit crisis.

Total CLOs outstanding hit US$1 trillion in 2021, and the market now stands at US$1.3 trillion4, comprising roughly 80% US assets and 20% European assets.

Towards a mature market

Outside of Japan, Asian investors have not historically been big buyers of structured credit products, but that is changing rapidly. The collapse of Asian high-yield bond valuations due to the Chinese real estate crisis has left a gap in the market for non-investment grade credit strategies, and investors are warming to private and structured debt to generate income and manage market volatility.

Alternative credit strategies already offer a broad range of options for investors. This will likely increase as the Asia Pacific market matures.

As global markets remain volatile and Asian investors expand their search for products with attractive returns, private and structured credit investments may attract more attention in the months and years to come.

Conclusion

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