Stuart Fiertz

According to research published by the Alternative Credit Council (ACC) – the private credit affiliate of the Alternative Investment Management Association (AIMA) – and global law firm, Dechert, private credit is now a globally established source of mainstream finance for borrowers around the world, with the industry on-track to grow to $1 trillion of assets under management by 2020.

Private credit is a global source of finance

The Financing the Economy 2018 report draws on an industry wide, international survey of nearly 70 private credit managers with a collective total of $470 billion of private credit assets under management across a broad cross-section of jurisdictions and strategies. The report comes as the Financial Stability Board, Chaired by Bank of England Governor Mark Carney, recognises market-based finance with the new term ‘non-bank financial intermediation’.

While half of respondents’ capital (51%) is allocated to SMEs or mid-market borrowers – more than ever before – managers are also increasingly lending to a far wider variety of borrowers outside of the mid-market: from smaller businesses and start-ups, to larger corporations, real estate and infrastructure projects. One in five private credit managers surveyed provide financing to companies with Earnings Before Interest, Tax, Depreciation and Amortization (EBITDAs) of over $100 million and over 40% surveyed are lending to companies with EBITDAs of less than $25 million.

A growing institutional investor base

The investor base of private credit continues to grow, with over 70% of all private credit committed capital now coming from institutional investors, according to the research. The industry’s diversity is offering attractive strategies for smaller or non-institutional investors such as family offices, which account for 5% of committed capital allocated to private credit. 38% of committed capital today comes from North American investors and 31% from Europe (excluding the UK), indicating that the European market is becoming a core region for private credit.

Managers are experienced

The majority of the private credit managers surveyed have long-standing experience of the sector, with two thirds of respondents having been operating for over six years and 45% for over 10 years; managers are experienced across multiple fund ages and loans types.

Private credit managers are working closely with borrowers

Private credit managers continue to provide borrowers with bespoke financing that offers greater flexibility on coupon and covenant terms than traditional bank lending.

The survey data supported this with almost four times as many respondents reporting that arrangement fees are decreasing rather than increasing. Twice as many respondents reported financial covenant protection weakening than strengthening over the past year. The picture on loan coupons is more nuanced, with a third of respondents reporting that coupons have lowered over the last 12 months.

However, while private credit managers may be showing more flexibility around covenants than in previous years, there are still risk baselines they will not cross.

Industry growth expected but managers cautious of possible end to current credit cycle

Private credit managers expect continued growth across the asset class, with more respondents predicting to increase their allocation, rather than decreasing it, across every sub-sector of the private credit market. Optimism is highest across SME and mid-market lending, where a third of respondents plan on increasing allocations over the coming three years. Respondents anticipate nearly the same amount of growth in the distressed debt market, expecting that interest rates will rise making it harder for some borrowers to meet their existing loan commitments or refinance.

However, managers are also preparing for the possibility of an end to the current credit cycle and tougher economic conditions for borrowers. As such, managers are increasingly lending at positions higher in the capital structure and moving away from cyclical sectors.

Levels of available capital and leverage are relatively low

Capital continues to be put to work with dry powder – also known as available capital – remaining at approximately one-third of the industry’s total assets, which is below the sector’s long-term average.

Financing is being used sparingly, with more than half of all managers and investors surveyed preferring unleveraged private credit strategies. Where leverage is used, it tends to be at relatively low levels, although those levels have risen slightly over the last year.

A source of long-term capital for borrowers

The capital invested in private credit funds is matched to the needs of borrowers in the real economy. Nearly 66% of surveyed managers use closed-ended commitment and drawdown fund structures. This benefits the financial system by ensuring that borrowers know they can put money to use for the whole period pre-agreed with the private credit fund manager. This means borrowers can be more certain of financing in times of market fluctuations, as funds cannot be withdrawn by investors.

Jiri Krol, Deputy CEO of the ACC, commented: “It’s exciting to see the continued growth and success of our industry both in terms of geography, different strategies and underlying asset classes. We are now being recognised as an important and unique source of finance by the policy makers. That said, most in the industry are thinking about what happens next in the cycle as the era of extremely loose monetary policy slowly comes to an end.”

Stuart Fiertz, Chair of the ACC, commented: “Over the past decade, private credit has moved from a niche form of lending to a mainstream and integral form of financing. At the same time, it has matured into a standalone asset class incorporating a range of strategies and types of funding. This survey is the biggest and most comprehensive to date and will provide greater transparency on our activity to the market, the investors and the regulatory community. We believe this will be important as the cycle turns, to ensure we maintain standards, remain disciplined and be responsible stewards of capital over the long term”.

Gus Black, Co-Chair of the Financial Services Group at Dechert LLP, commented: “Once again, we are very pleased to support this report, which gives a good sense of the important role private credit now plays in funding the real economy.”

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Following a record election turnout, Paul Chadwick has been successfully elected to represent the global AIMA Board, marking the first Australian to join the global ranks in almost a decade.  Taking over local chair reins from Chadwick is Dr Alistair Rew, Head of Alpha Strategies at AMP Capital.

Rew will commence the two-year local chair role in late September and continue his current role as chair of the AIMA Australia Investor Advisory Group.

The two separate election results speak to the growing voice, credibility and presence of AIMA Australia, says Michael Gallagher, AIMA Australia General Manager.

“AIMA has long recognised the resourcefulness, ingenuity and intelligence of its Australian chapter, and has adopted many of the concepts and initiatives that have successfully galvanized local membership and energised the sector here,” he said.

“We have doubled our local membership in four years, in which time alternative investments have gained market share and respect from investors across the spectrum.”

Commenting on his global appointment, Chadwick said: “I look forward to bringing more of our local perspectives and experiences to the global table and continuing to support industry growth and development over what are likely to be two fascinating years for markets as quantitative easing ceases and more powerful technologies continue to transform practices.”

Chadwick and Rew will be among several leaders to address the AIMA Australia Annual Forum in Sydney. The Forum will feature fellow Australian export Shane Finemore, Managing Partner and Chief Investment Officer of Manikay Partners and Nobel Gulati, CEO of Two Sigma Advisers, both from New York.  The AIMA Australia Forum will be held in Sydney at the Westin on Wednesday 12 September 2018.

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Shane Finemore

Nobel Gulati, CEO of Two Sigma Advisers and Shane Finemore, Managing Partner and Chief Investment Officer of Manikay Partners will provide keynote addresses at the Forum that has become an internationally renowned event for the hedge fund community.

Two Sigma Advisers is a pioneer in blending computer-driven, model-based trading systems with culture and research to unearth value.  Manikay Partners, also New York based, was founded in 2008 by Shane Finemore, regarded as one of Australia’s most successful investment manager exports. Finemore will join AIMA Australia Chair Paul Chadwick for the Forum’s Fireside chat, known for its unique candour and rare insights.

The Forum will tackle the issues and challenges that continue to reshape investment management from all angles, including fundamental drivers, rising levels of technology, growing ability to isolate alpha from market beta, regulatory change, shifting demographics, the importance of culture and an ever-growing focus on ESG within portfolios.

AIMA Australia General Manager Michael Gallagher said the growth of the Forum, in scope, influence and size, has been aligned with a substantial increase in AIMA’s local membership, which he attributes to the convergence of traditional and alternative investment managers.

“Our membership in Australia has doubled in the last four years which signals a healthy industry, and more so, a growing recognition of the need to work together to best plan for the future, given the speed at which it is coming,” Gallagher said.

“Markets are at an inflection point where many emerging segments haven’t been tested in a hawkish economic environment, so it’s critical that we apply lessons learned and forge ahead with enlightened policies and portfolios that anticipate potential market consequences.

“AIMA has stepped up its education program and engagement activities in recent years to glean deeper insights from a wider range of managers and investors, strengthening its voice as sector globalisation continues.

“We introduced a new Super Trustees Forum in 2017 to address the information needs of trustees who are adopting integrated approaches to portfolios that are more concerned with outcomes than asset silos and terminology.”

The AIMA Australia Annual Forum will take place on Wednesday 12 September at The Westin Hotel in Sydney as the main event of what the industry calls ‘Hedge Fund Week’, which features other industry initiatives, including the annual awards and charity event, Hedge Funds Rock.

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Jack Inglis

Renewed interest in alternative investment exposures, growth in new launches and ever closer alignment of interests with investors have pushed hedge fund assets to more than $3 trillion global highs with plenty of green shoots, according to AIMA Australia General Manager Michael Gallagher.

“This improved outlook, around the globe and in Australia, has helped the industry to refocus on emerging developments, such as incorporating ESG into investing, operational efficiency and preparedness for regulation such as MiFID,” he said.

In the area of ESG – applying environmental, social and governance factors to investing – Gallagher said AIMA had worked alongside the United Nations Principles for Responsible Investment (PRI) and other organisations in helping to shape the PRI’s first industry-standard due diligence questionnaire (RI DDQ) for hedge funds.

The new DDQ, which is available from the AIMA website, helps investors during their manager selection and assessment process. It comprises a standardised set of questions to help identify those fund managers who have the staff, knowledge and structure in place to incorporate ESG factors into the investment decision-making process.

Mr Gallagher says ESG measures are increasingly being recognised as proxies for management quality, and can be another arrow in the quiver of hedge funds in their search for out-performance and diversification.

How managers integrate ESG into investment practices will be a key topic discussed at this year’s AIMA Australia Forum. Also likely to feature is MiFID II, the new cornerstone of European securities laws that will take effect in January 2018. MiFID II promises to have global impact. For example, Australian fund managers who trade with European brokers will find that the European trading environment is radically transformed – with greater transparency for bond and derivative trading, position limits for commodity contracts and new rules for trading of derivatives on European venues.

The AIMA Australia Annual Forum 2017 will be held at the Sofitel Sydney Wentworth on 12th September. Some of the confirmed speakers include:

• Thomas Weber, Co-Founder and Managing Partner of LGT
• Stuart Roden, Chairman of Lansdowne Partners
• Joel Poster, Head of the ESG Strategies, Future Fund
• Dr Ian Woods, Head of ESG Investment Research, AMP Capital
• Sushil Wadhwani, Founder, Wadhwani Asset Management
• Matthew Turner ,Managing Director of the Intermediate Capital Group
• Justin Ferrier, Managing Director Asian private credit platform, BlackRock
• Philippe Jordan, CEO of CFM
• Jack Inglis, Global CEO of AIMA

The Forum will likely reflect on how hedge fund managers have changed models to better align interests with investors. While signs of this alignment are global, a recent survey by AIMA and boutique prime broker GPP of 135 smaller funds sub-$500m found that:

• Half are charging 1.5 per cent of less (for start-up funds closer to 1.25 per cent);
• Two-thirds are charging less than 20 per cent performance fee;
• Close to 90 per cent of managers say they have a high watermark, and
• Around one-third have hurdle rates.

The survey also showed that most firms are able to turn a profit with less than $100m, with around one third of managers able to break even with less than $50m.

AIMA Chief Executive Jack Inglis said: “Our research disproves the notion that only relatively large, institutionalised businesses can succeed in the modern hedge fund industry. We have found that firms can build strong, sustainable and growing businesses with considerably less than $100m in assets. This is good news not only for the future health and well-being of the sector but for investors too, since smaller managers have often been the source of many of the industry’s greatest innovations.”

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Jack Inglis

Hedge funds finished last year up 2.42%, beating equities and bonds on an absolute and risk-adjusted basis, according to an analysis of performance data by the Alternative Investment Management Association (AIMA), the global representative body for alternative asset managers.

AIMA said the analysis, based on returns reported to HedgeFund Intelligence (HFI) by funds with total assets under management (AUM) of roughly $1.1 trillion, represented one of the most comprehensive assessments of the global hedge fund industry’s performance last year.

The analysis includes the first measurement of the industry’s risk-adjusted performance in 2015. Risk-adjusted returns are closely watched by institutional investors such as pensions and endowments since they measure both the total return and the volatility of those returns. AIMA’s analysis also contains an extensive breakdown of returns by the different hedge fund investment strategies.

According to AIMA:

• hedge funds on average outperformed stocks and bonds on both a headline and risk-adjusted basis
• hedge funds globally finished the year up 2.42% net of all fees
• around two-thirds of funds (65.30%) reported positive returns
• risk-adjusted returns were positive, as measured by a Sharpe ratio of +0.52
• the best performing strategies were equity market neutral / quant (up 10.44%), long/short equity (up 6.79%) and multi-strategy (up 5.65%).

Jack Inglis, CEO of AIMA, said: “While 2015 will not be remembered as a vintage year for the industry, the majority of hedge funds still produced positive returns amid challenging market conditions, beating stocks and bonds on both an absolute and risk-adjusted basis and preserving capital for pension funds and other investors.

Given that this period of market volatility is set to continue during 2016, we remain confident that hedge funds will continue to meet their investors’ expectations for competitive, diversified and low-volatility returns.”

On a strategy-by-strategy basis, the average returns, according to AIMA’s analysis, were as follows:

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Paul Chadwick, Chairman of AIMA Australia, said the proposed changes should help to unlock significant potential within the local investment sector and make Australia a more dynamic and vibrant hedge fund centre in Asia-Pacific.

“We commend Treasury for its thorough and considered approach to formulating an IMR that addresses many impediments that have deterred investment into Australian based hedge funds,” Mr Chadwick said.

“AIMA has worked closely with Treasury over the last four years to bring local and global intelligence to the IMR policy discussion and we are very pleased to see that many of our recommendations have been incorporated,” he said.

“We believe the IMR in its amended form will bring clarity to the taxation treatment of foreign capital invested in Australia, and so will benefit the Australian hedge fund management industry. It will bolster local fund inflows and appeal to international funds considering expanding operations to Australia.”

However, Mr Chadwick said that AIMA will continue to voice its concerns to the government about aspects of the IMR legislation which could penalise smaller funds and funds in the process of growing their investor base.

AIMA will be conducting member events to discuss the implications of the draft changes and will consider submitting a further response to the government.

Industry consultation for this fourth IMR draft legislation ends 9 April 2015.

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Craig Stanford

The Alternative Investment Management Association’s (AIMA) Australian National Group has welcomed Craig Stanford, Ibbotson Associates Australia’s Head of Alternative Investments, as Education Committee Chair and Executive Committee Member.

Michael Gallagher, General Manager of AIMA’s Australian National Group, said the appointment is key to extending the global hedge fund industry association’s education to the financial planning, accounting and SMSF channels.

“We are thrilled that Craig has agreed to chair the Education Committee and apply his alternative investing knowledge and experience to improve understanding of hedge funds in Australia,” Mr Gallagher said.

“Education has always been a core AIMA offering and we look forward to working with Craig to improve clarity and understanding of hedge funds in the market as investors increasingly consider their inclusion in portfolios.”

Mr Stanford has over 20 years’ investment management experience, including five with Ibbotson Associates Australia, where he oversees the investment group’s alternative investments.

He will look to grow Education Committee representation to ensure relevance and reach. Several other members of AIMA’s local Executive Committee, charged with improving industry best practice and aiding regulatory reform, will initially join him on the Education Committee.

AIMA’s 2015 education program will focus on differentiating the different types of strategies collectively termed hedge funds, and how they can complement traditional exposures. AIMA aims to offer continued education points for professional participation later in the year.

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Gallagher was chosen to fill the role previously held by Brett Ireland who has decided to focus solely on a full-time role elsewhere within the financial services industry.

Gallagher has over twenty years experience in the finance industry including more than ten years in alternative investment management. Most recently he was CEO of Kima Capital Management, the Australian and Hong Kong based fund manager he co-founded. Prior to Kima, he was Head of Australasian Equities for Rand Merchant Bank, overseeing the Asian proprietary trading, fund of funds, ETFs and structured products divisions.

He has also held senior equity proprietary trading, derivatives, structuring and supervisory roles at Rand Merchant Bank and Macquarie Bank in Australia, South Africa and the UK.

AIMA Australia Chairman, Paul Chadwick, said Mr Gallagher is extremely well positioned to represent Australian hedge funds and their contribution to the financial services sector.

“Michael brings deep knowledge of the sector, understanding of the strategic and operational challenges of running a hedge fund and the passion to make Australia a vibrant hub for hedge funds and investors,” Chadwick said.

“His insights will greatly benefit members and our dialogue with investors, government representatives and regulators,” he said, while also commending Brett Ireland for his contribution to growing AIMA’s relevance and credibility in recent years.

“Michael will coordinate with AIMA’s various groups and stakeholders including its Executive Committee, Regulatory Committee and Education Committee, both locally and regionally to refine and implement the association’s strategic plans.”

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