One possible solution – and a topic for that conversation – may be summed up in two words: Private Credit.
Private credit was, for a long time, the exclusive province of institutional and ultra-high-net-worth investors, who were able to capitalize on the unique market premium of this investment strategy. In recent years, however, private credit has become more accessible to a broader range of investors due to the growing availability of individual investor fund structures such as interval funds.3
Potential Benefits, Risks of Private Credit
Private credit funds offer investors the potential for substantially higher yields and income than what may be available in public corporate debt markets, albeit with heightened risk. Investors may receive little or no return on an investment in private credit funds due to their limited liquidity. Additionally, private credit funds employ a high degree of leverage (otherwise known as borrowing), which may also expose investors to increased risk and volatility.
Returns on direct lending have historically been less sensitive to changes in interest rates and have remained positive even during periods of rising rates, when returns on high-yield bonds and bank loans have turned negative. Exhibit 1
Private credit funds also offer investors the opportunity to earn an “illiquidity premium.” Unlike long-only open-end mutual funds, which have daily liquidity, private credit funds generally require investors to lock-up their capital for a specified minimum amount of time (e.g., monthly or quarterly redemptions; this time interval is also the derivation of the term “interval fund”). In return, investors may earn an illiquidity premium. Exhibit 2
Advisors seeking opportunities to diversify client portfolios may also find that private credit offers a viable option.4 The yields available to investors in the private credit space have historically been higher than those available from other fixed income sources, including bank loans, high-yield bonds, and emerging market government bonds.5
Private credit provides an opportunity for RIAs to increase clients’ exposure to private markets and seek to further diversify client portfolios. Advisors know that the typical individual investor portfolio is likely to have a far lower allocation to alternatives, including private markets, than what institutional investors allocate to this important diversifying asset class. While industry research shows that the generally recommended allocation to alternatives for individuals ranges from 10% to 20%, the average is 3%. That compares with a 33% allocation to alternatives for the typical endowment portfolio.6
OppenheimerFunds, Carlyle Private Credit Venture
Earlier this year, as you may have heard, affiliates of OppenheimerFunds and The Carlyle Group formed a joint venture entity, OC Private Capital LLC, to focus on bringing private credit opportunities to high-net-worth investors and their advisors. The OFI Carlyle Private Credit Fund7 focuses on the so-called middle market – private companies with annual revenues between $20 million and $1 billion.
If you’re wondering why private companies, the answer is: That’s where we see the best opportunity set for investors. According to the U.S. Census Bureau, more than 99% of the roughly 6 million companies in this country are privately held.8 If these middle-market companies were a country, they would have a GDP of $5.9 trillion, making them the third largest economy in the world, trailing only the United States and China, and ahead of Japan, Germany, and the U.K.9
The Fund originates loans directly to businesses that cannot or do not want to access public markets for their capital needs, and across the major sectors of Carlyle’s credit platform, including:
- Direct Lending – Loans and subordinated debt;
- Opportunistic Credit – Opportunities that arise due to market dislocation or special situations;
- Loans and Structured Credit – Broadly syndicated senior secured bank loans and negotiated tranches of Collateralized Loan Obligations (CLOs) and structured financings;
- Liquid Credit – Debt, government or corporate, with robust, liquid markets; and
- Distressed Credit – Debt and equity of operationally sound, financially distressed companies.
The Fund also seeks to meet clients’ needs by offering quarterly share repurchases and simplified Form 1099 tax reporting.
For a more complete overview of the OFI Carlyle Private Credit Fund, as well as an excellent analysis of credit markets and opportunities, I invite you to watch the replay of our recent webcast, “Inside the OFI Carlyle Private Credit Fund.”
I’m sure it will not only answer any questions you may have, but also help you answer your clients’ questions when they call looking for more robust fixed income portfolio strategies in this market environment.
- ^Source: “Private credit market to hit $1trn by 2020, survey says,” IPE.com, 11/12/18.
- ^Source: 2018 Preqin Global Alternatives Report.
- ^An interval fund is a type of investment company registered under the Investment Company Act of 1940, as amended, and the Securities Act of 1933, as amended, that periodically offers to repurchase its shares from shareholders. They are classified as closed-end funds, however, they typically do not trade on the secondary market and are permitted to continuously offer their shares at a net asset value (NAV).
- ^While this asset class may help provide added diversification for clients, the OFI-Carlyle Private Credit Fund is classified as non-diversified and investments are concentrated.
- ^Source: Annualized return from 1/1/05 to 12/31/17 represented by Bank Loan (S&P LSTA Leveraged Loan Index 4.8%), High Yield (Bloomberg Barclays U.S. Corporate High Yield Index 7.4%), and Private Credit (Cliffwater Direct Lending Index 9.7%).
- ^Source: Money Management Institute, Dover Financial Research. Endowment excludes marketable alternative strategies (hedge funds, absolute return, market neutral, long/short, 130/30, event-driven and derivatives). Retail allocation excludes liquid alternatives.
- ^The OFI Private Credit Fund is advised by OC Private Capital, LLC, and sub-advised by Carlyle Global Credit Investment Management, LLC.
- ^Source: U.S. Census Bureau, 2008.
- ^Source: U.S. Private Markets Gross Domestic Product (GDP) is as of12/31/17, as provided by the National Center for the Middle Market. Country GDP is as of 2017, provided by the International Monetary Fund.
INVESTING IN THE FUND INVOLVES A HIGH DEGREE OF RISK, INCLUDING THE RISK THAT YOU MAY RECEIVE LITTLE OR NO RETURN ON YOUR INVESTMENT OR THAT YOU MAY LOSE PART OR ALL OF YOUR INVESTMENT. THIS IS A CLOSED-END INTERVAL FUND AND IS NOT INTENDED TO BE A TYPICAL TRADED INVESTMENT. THE FUND WILL NOT BE LISTED OR TRADED ON ANY STOCK EXCHANGE. LIMITED LIQUIDITY IS PROVIDED TO SHAREHOLDERS ONLY THROUGH THE FUND'S QUARTERLY REPURCHASE OFFERS FOR NO LESS THAN 5% OF THE FUND'S SHARES OUTSTANDING AT NET ASSET VALUE. REGARDLESS OF HOW THE FUND PERFORMS, THERE IS NO GUARANTEE THAT SHAREHOLDERS WILL BE ABLE TO SELL ALL OF THE SHARES THEY DESIRE IN A QUARTERLY REPURCHASE OFFER.
There currently is no secondary market for the Fund's shares and the Fund expects that no secondary market will develop. *Shares of the Fund will not be listed on any securities exchange, which makes them inherently illiquid. Limited liquidity is provided to shareholders only through the Fund's quarterly repurchase offers, regardless of how the Fund performs.
There is no assurance that quarterly distributions paid by the Fund will be maintained at the targeted level or that dividends will be paid at all. The Fund's distributions may be funded from unlimited amounts of offering proceeds or borrowings, which may constitute a return of capital and reduce the amount of capital available to the Fund for investment. A return of capital to shareholders is a return of a portion of their original investment in the Fund, thereby reducing the tax basis of their investment.
This material is provided for general and educational purposes only, is not intended to provide legal or tax advice, and is not for use to avoid penalties that may be imposed under U.S. federal tax laws. Clients should contact their own legal or tax advisors to learn more about the rules that may affect individual situations.
Investing involves risk. Investment return and principal value of an investment will fluctuate, and an investor's shares, when redeemed, may be worth more or less than their original cost. Fixed income investing entails credit and interest rate risks. When interest rates rise, bond prices generally fall, and the Fund's share prices can fall. Below-investment-grade (“high yield” or "junk") bonds are more at risk of default and are subject to liquidity risk. Credit instruments that are rated below investment grade (commonly referred to as “high yield” securities or “junk bonds”) are regarded as having predominantly speculative characteristics with respect to the issuer's capacity to pay interest and repay principal. Collateralized loan obligations (CLO's) are structure. Because of the risks associated with investing in high yield securities, an investment in the Fund should be considered speculative. Some of the credit instruments will have no credit rating at all. The Fund may invest in loans and the value of those loans may be detrimentally affected to the extent a borrower defaults on its obligations. Senior loans are typically lower-rated and may be illiquid investments, which may not have a ready market. Investments in lesser-known and middle-market companies may be more vulnerable than larger, more established organizations. Distressed credit investments are inherently speculative and are subject to a high degree of risk. Leverage (borrowing) involves transaction and interest costs on amounts borrowed, which may reduce performance. Foreign investments may be volatile and involve additional expenses and special risks, including currency fluctuations, foreign taxes, regulatory and geopolitical risks. The Fund is classified as “non-diversified” and may invest a greater portion of its assets in the securities of a single issuer.
The Fund has limited operating history as the A share commenced operations on June 4, 2018 and the I, L, and Y shares on September 4, 2018.