Private Credit Investors and Alternative Investment Funds
Alternative Investment Funds (AIFs) provide an option to invest in different asset classes − such as venture capital, private credit, and hedge funds − primarily for Limited Partners (LPs) that are typically large pension funds, endowments, and family offices. The trend toward fund financing for AIFs, where a lender takes risk against the uncalled capital of the underlying investors, has become popular since it can help aid a fund's liquidity and boost the Internal Rate of Return (IRR).Different Fund Financing Methods
Today, the typical fund-level financing options are subscription credit facilities, NAV facilities, and General Partner (GP)-sponsored solutions.
- Subscription Credit Facilities: This has traditionally been used for short-term bridge financing, which typically involves senior revolving facilities secured by the unfunded capital commitment of fund investors. Facilities are becoming larger, however, and the tenor[1] has become longer over the years.
- NAV Facilities: Instead of "looking up" to capital commitment, NAV facilities "look down" to fund assets. The facility is secured by equity in the portfolio holdings and is commonly used for acquisition finance and re-levering concentrated pools of investment. Since the COVID-19 pandemic, NAV facilities are also used to provide liquidity for working capital and to fund downstream obligations for portfolio investments.
- GP-sponsored Solutions: GPs are also exploring alternative solutions for sourcing capital at the fund level. This is often through preferred equity issuance to new investors who provide capital in exchange for priority distribution from some, or all, of a portfolio’s investments. It may also be through fund restructuring, which transfers a portfolio to a successor fund capitalized by new Investors and existing investors who rollover into the new fund.
The Need for Transparency
As the AIF market matures, more transparency is needed to address a number of issues:
- The AIF universe comprises mostly unrated entities and transactions, so there is not an assessment of credit risk readily available.
- AIFs normally involve multiple LPs with different levels of creditworthiness, making it difficult to fully understand possible risks.
- There is the potential for regulators to begin to sharpen their focus on AIFs given concerns about how the use of leverage within the AIF sector may contribute to the build-up of systemic risk in the financial system.
The AIF Credit Assessment Scorecard is an essential tool to identify and manage potential default risks with fund portfolios, as well as understand the various factors affecting a fund’s creditworthiness. The AIF Scorecard includes:
- A consistent framework for calculating credit risk.
- The ability to identify default risk through quantitative and qualitative factors tailored for AIFs. Users can generate probability of default (PD) values for AIF portfolios and perform sensitivity analyses, scenario analyses, and stress tests.
- Credit scores that are designed to broadly align with S&P Global Ratings credit ratings,[2] supported by historical default data back to 1981.
- Technical documentation describing the analytical/statistical processes used to develop the underlying model, identifying the data used in construction, and providing testing performance results.
- Scorecard implementation and application training workshops.
- Ongoing analytical and operational support.
To learn more about the AIF Scorecard, visit our website here.
[1] Tenor is the length of time until a loan is due.
[2] S&P Global Ratings does not contribute to or participate in the creation of credit scores generated by S&P Global Market Intelligence. Lowercase nomenclature is used to differentiate S&P Global Market Intelligence PD credit model scores from the credit ratings issued by S&P Global Ratings.
FAQs
Private credit represents part of the broader alternatives universe, referring to non-traditional assets relying to some degree on an illiquidity risk premium to help drive excess returns.
What is a private credit investment fund? ›
Private credit funds are pools of actively managed capital that invest primarily in loans to private companies, seeking to generate income by investing in loans of private companies.
What is the difference between PMS and alternative investment funds? ›
AIFs are bound by strict lock-in periods and come with very few options to liquidate. PMS, on the other hand, provides direct ownership of securities, but they are also relatively less liquid. MFs are the most liquid among the three, as they provide easy access and high liquidity through daily NAV based transactions.
What are the alternative investment funds? ›
It refers to any privately pooled investment fund, (whether from Indian or foreign sources), in the form of a trust or a company or a body corporate or a Limited Liability Partnership (LLP). Hence, in India, AIFs are private funds which are otherwise not coming under the jurisdiction of any regulatory agency in India.
What is an example of a private credit? ›
Common forms of private credit
- Direct lending. Direct lending provides credit to non-investment-grade companies. ...
- Mezzanine debt. ...
- Distressed debt. ...
- Special circ*mstances.
Why do investors like private credit? ›
Private credit and private equity are both alternative assets that could be attractive to investors looking for different benefits for their portfolios. Private credit may be appropriate for investors seeking relatively stable and predictable returns that often exceed those of bonds and other fixed-income assets.
Do PMS beat mutual funds? ›
PMS investments have fewer regulatory controls and are riskier than mutual funds (MFs) as they are subject to market fluctuations and volatility. However, they offer greater returns.
Is PMS a hedge fund? ›
As a rule of thumb, for an asset manager, a PMS typically denotes a Front Office system used for portfolio modelling. On the other hand, for a hedge fund, a Portfolio Management System usually refers to a back office system.
What are the three main types of investment alternatives? ›
Hedge funds, private equity and private credit are three key asset classes in the alternatives universe. They provide portfolio diversification, help tap potential for growth and enable financing opportunities for investors and businesses.
What is an example of an alternative investment? ›
Conventional categories include stocks, bonds, and cash. Alternative investments can include private equity or venture capital, hedge funds, managed futures, art and antiques, commodities, and derivatives contracts. Real estate is also often classified as an alternative investment.
However, the best alternative investments differ depending on each individual's situation, including goals, time horizon and risk tolerance.
- Real estate. ...
- Lending. ...
- Commodities. ...
- Venture capital. ...
- Digital assets. ...
- Royalties. ...
- Private equity. ...
- Litigation finance.
How do alternative investments work? ›
Alternative investments are supplemental strategies to traditional long-only positions in stocks, bonds, and cash. Alternative investments include investments in five main categories: hedge funds, private capital, natural resources, real estate, and infrastructure.
What is the difference between public credit and private credit? ›
Public credit: Debt issued or traded on the public markets. Private credit: Privately originated or negotiated investments, comprised of potentially higher yielding, illiquid opportunities across a range of risk/return profiles. They are not traded on the public markets.
What is the difference between private credit and structured credit? ›
Private credit tends to lend to smaller companies. Investors are beholden to what the manager chooses to share about the private borrower. Conversely, a structured credit investment offers superior transparency by way of its credit rating and public financials.
What is the difference between a loan and a private credit? ›
Private credit has typically focused on small and mid-sized borrowers, while syndicated loans and high yield borrowers also tend to fall at the lower end of the credit spectrum.
What is private credit in real estate? ›
Real Estate Private Credit Definition
Investments in debt positions wherein a non-bank lender (the investor) issues debt capital to a real estate sponsor or operator, generally to supplement a traditional first-mortgage or senior loan.