Once considered a tricky asset class for wholesale and retail investors to access, a growing number of private debt funds are now available in the Australian market, offering lower investment minimums and more liquidity than has been available in the past.
This democratisation of private assets has granted investors access to a larger investment universe, which coincides with greater innovation in the way that the funds are built amid changing technology and regulations.
Overall, portfolios can be diversified by allocating a portion to private markets as their returns are driven from factors which differ from public market valuations.
However, Morningstar CIO Matt Wacher warns of significant risks of downward valuations remain this year. While private equity and venture capital are most at risk in the short to medium term, real estate also remains overvalued, with capitalisation rates relatively low.
Regardless, private debt is one area of private markets that remains of interest as assets are generally floating rate, he tells Professional Planner.
“Spreads above cash can be significant, and can give an impressive total return,” Wacher says.
“There seems to be significant deal flow in the market as solid business search for funding means that private debt managers can be quite discerning about who they partner with and can build reasonable diversification across industry groups.”
But the notion that investors can reduce volatility by exiting listed assets and investing in unlisted because they are mark to market irregularly is just smoke and mirrors, he adds.
“If investors over-pay for assets because of some artificial concept that an asset has low volatility it still means they have overpaid for an asset and we see throughout history that overpaying for assets is the quickest way to destroy wealth when the environment changes,” Wacher says.
RFS Advice financial adviser Troy Theobald also urged caution on private markets given the current interest rate cycle.
“There can be significant liquidity issues should you need access to capital,” he says.
“There is no doubt some parts of the community that are looking for longer term returns over time without the need for capital, but this is certainly not the majority. You need to remember that banks like to make profits. If they are pulling back from these areas then there is probably a reason for it.”
Of course, banks are also pulling out of private markets to reduce their risks, meaning that access to capital will tend to flow from less traditional places for funding.
Evergreen Consulting senior consultant Kieran Rooney notes that there has already been a dash for cash as investors have sought to reduce volatility. Concerns around inflation meant that both stocks and bonds sold off last year, meaning that investor cash balances are high.
“We believe most investors have been caught off guard by the resiliency of risk assets,” Rooney says.
“As there are now disinflationary forces at play, investors may now use bonds as risk management tools again in the year ahead.”
Looking forward longer term, he adds investors will need to come to terms with the fact that the volatility of inflation will be higher this decade.
“Investors may place a higher emphasis on liquidity in their portfolios over time as geopolitical tensions and impaired sovereign balance sheets present the risk of capital controls,” he says.
Rooney warns that this could have profound effects on correlations and the cyclicality of asset price returns, meaning that investors will need to ensure that their private assets are in friendly jurisdictions.
