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.

The opportunity and outlook for Australian private deb

Andrew Lockhart, Managing Partner at Metrics Credit Partners, provided insights into the opportunity and outlook for Australian private debt in this recent Livewire Alternatives in Focus article.

What is the current state of play in private debt?

Lockhart emphasises the short-dated and floating base rate attributes of private debt assets in his view the sector will continue to “generate real returns over and above inflation.” These attributes mean rising interest rates have flowed through to higher total returns.

“We lend across the market, but commercial real estate is particularly attractive currently,” Lockhart says.

“An area that banks pulled back from because of changes to regulatory requirements, this created an opportunity for lenders such as us.”

Why should investors consider private debt?

“Private debt is on the radar for more people as it can provide an inflation hedge, deliver low capital volatility, and generate consistent income even in turbulent times,” Lockhart says.

He also believes the asset class can work in either the defensive or growth component of investor portfolios “Sometimes even both at the same time.”

As Lockhart explains, funds with “relatively low risk” positions in senior secured debt, or investment grade debt, may provide defensive investors with an alternative to bonds.

“Alternatively, funds that provide exposure to sub-investment grade debt or alternative parts of the capital structure can instead replace part of an allocation to equities,” he says.

What is your outlook for private debt over the next 12 months?

Lockhart believes private debt provides greater return prospects, with lower risk, than other asset classes over the next 12 months – and within most economic conditions.

“Credit growth in the local market is likely to be between 5% and 6% in the current environment. And our size, at $15 billion, allows us to be very selective in terms of the companies and projects we finance,” he says.

Lockhart also emphasises the diverse range of deal types covered by Metrics, which invests across:

corporate lending,
project and infrastructure funding,
real estate,
leveraged buyouts, and
acquisition finance.

“We also have the flexibility to participate in different structures, from senior unsecured debt to subordinated or mezzanine debt,” Lockhart says.

He regards commercial real estate as particularly attractive now, partly because banks have pulled back as regulatory capital charges have become too high (APRA increased Common Equity Tier 1 capital ratios to 10.25% from January 2023).

“We believe there is a growing sense that Australian real estate is the next logical market in which they should invest,” Lockhart says.

“But to do this well, you need to have people on the ground, relationships in place and the ability to manage risk for projects in which you invest.”

Metrics Master Income Trust (ASX: MXT)

Launch date: October 2017
Funds under management: $1.77 billion (as of October 2023)
Minimum investment: $500
Fund objective: Provide monthly cash income, low risk of capital loss and portfolio diversification by actively managing diversified loan portfolios and participating in Australia’s bank-dominated corporate loan market
Target Return: RBA Cash Rate +3.25% p.a. net of fees (currently 7.60% p.a.)
What it costs: 0.24% management fee (excluding administrative costs and performance fee)
Performance: 5.57% p.a. since inception (as of 31 October 2023)

Metrics Income Opportunities Trust (ASX: MOT)

Launch date: April 2019
Funds under management: $567 million (as of October 2023)
Minimum investment: $500
Fund Objective: Provide monthly cash income, preserve investor capital, and manage investment risks while seeking to provide the potential for upside gains through investment in private credit and other assets such as warrants, options, preference shares and equity. MOT may also invest in private equity and equity-like investments
Target Return: Target Cash Return of 7% pa net of fees paid monthly. Target Total Return of 8-10% pa net of fees through the economic cycle
What it costs: 1.03% p.a. (plus performance fee)
Performance: 8.88% p.a. since inception (as of 31 October 2023)

Livewire Markets | 10 November 2023

This is general information only and is not intended to provide you with financial advice and has been prepared without taking into account your objectives, financial situation or needs. The Trust Company (RE Services) Limited (ABN 45 003 278 831, AFSL 235 150) is the Responsible Entity of the Metrics Master Income Trust and Metrics Income Opportunities Trust (the Trusts). Metrics Credit Partners Pty Ltd ABN 27 150 646 996 AFSL 416 146 (Metrics), is the investment manager of the Trusts. For further information on the Trusts please refer to each Trusts PDS and Target Market Determination which is available at www.metrics.com.au. Past performance is not indicative of future performance. The payment of monthly cash income is a goal of the Trust only and is not guaranteed.

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