But as the strategy’s popularity with billionaires has grown, competition for private loan deals has ignited. Family offices can move more quickly to sign new business than can bigger institutional peers such as pension funds, says Mark Sotir, president of Equity Group Investments, which manages Chicago billionaire Sam Zell’s money. EGI has loaned money to moving company Sirva Worldwide, oil and natural gas company Penn Virginia, and energy company Par Pacific Holdings, according to its website. “Debt is a tool in the toolbox, and we’re going to use it more in the future for sure,” Sotir says.
As the race to bag deals before rivals can get them intensifies, investors are also swallowing bigger risks when deploying their money, according to Snyder.
So-called middle-market lending, which involves loans of $50 million or larger, is overcrowded. More competition has also started eroding the yields that made direct lending appealing in the first place.
Michael Dean, of family office Bluelaurel, has felt the crush of competition firsthand. Avamore Capital, a property-focused lending company that Bluelaurel backs, initially produced double-digit returns four years ago. Surging interest in private credit has since halved those returns, Dean says. Still, he expects to maintain as much as 80% of his family’s assets in private real estate credit for now. “If the right opportunities arise, we’ll probably do some deployment back into direct real estate,” he says.
There are also liquidity risks. The underlying loans in private debt aren’t widely traded, which means they’re likely to be hard to sell in a crisis when markets turn volatile. In short, investors could find themselves looking on helplessly as their assets become worthless during a crash. Moreover, when investing in a closed-end fund with an asset manager, the capital is locked in with virtually no opportunity to withdraw until the asset matures.
“There’s a real reason the returns are as high as they are,” says Christian Armbruester, the founder of London-based Blu Family Office, who manages an open-end fund that contains more than 3,000 private loans worldwide. “If a borrower defaults, walks away, and the markets freeze up, you’re holding an asset you can’t move.”
But any concerns about deteriorating credit quality, tougher competition, or an impending downturn are failing to dent the popularity of private debt among investors in search of the yields it can pay. Debt will remain a big part of family office portfolios as they expand their footprint in private markets for the foreseeable future, according to Axial Chief Executive Officer Peter Lehrman.
“It’s really the next leg of progress by family offices in terms of their sophistication as direct investors in private markets,” Lehrman says. “I’m not surprised they started off investing in equity. And the fact that they’re increasingly putting capital to work and looking for opportunities in credit is a function of their sophistication.”
This article was provided by Bloomberg News.