Does a slowing economy increase the risk of loan defaults in private debt?

Well-run private debt funds use rigorous scenario testing and real-time monitoring to mitigate risks. Historical net write-offs by banks peaked at just 0.68% during the GFC and were 0.04% in September 2024, demonstrating strong resilience across economic cycles.

Does a loan default always result in a credit loss?

No. Private debt investors are protected by their seniority in the capital structure. Senior debt holders get repaid first, before subordinated debt, preferred equity, and common shareholders. Covenants and controls act as early warning signals allowing lenders to engage with borrowers to mitigate financial loss.

Are all private debt managers the same?

No. Private debt managers differ significantly in scale, credit skills, and experience. Quality managers need sizable assets under management, bank-level credit skills, extensive networks, and the ability to directly originate and diversify loans across borrowers to achieve optimal outcomes.

Does commercial real estate debt put capital at risk in a property downturn?

Property owners face greater risk than lenders. With typical loan-to-value ratios of 60%, owners' equity acts as a buffer. Even if property values fall significantly, lenders can compel borrowers to restore their position or pursue asset sales to maximize recovery without necessarily incurring losses.

Are non-bank lenders lenders of last resort?

No. Competent private debt managers lend to quality companies and often compete with banks or work alongside them in lending syndicates. Post-GFC regulations requiring banks to hold more capital have created financing gaps that private debt fills for established companies with sound fundamentals.

A high income option for defensive portfolios

With interest rates at record lows and expected to go down even further in Australia, investors are considering the gamut of high yield options to compensate for the chump change being offered on term deposits and savings accounts.

One relatively new asset in the fixed income block to consider is “private credit”, which has emerged in prominence as banks have pared back on lending activity. It involves directly negotiating a loan between a borrower and private lender like Metrics Credit Partners, which offers several LITs that offer exposure to the asset class. The returns on these loan contracts can vary from 3% to over 10% above the RBA cash rate, according to Metrics’ Andrew Lockhart

Here, he seeks to educate investors on how private credit works, why it’s becoming a more accessible option and the return elements of these securities.

Livewire | February 13, 2020

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