86% of Institutional Investors “satisfied” with their Private Debt funds: Preqin

It can’t be too hard to figure out how institutions are feeling right now about their portfolio of hedge funds, given the H1 2016 performance numbers of some of the highest profile U.S. managers: I’m guessing that the vast majority of LPs aren’t happy. Compare that to the results of a recent survey of the Private Debt space by Preqin, a global consulting firm that tracks performance data on tens of thousands of alternative asset-type funds.

The mood is starkly better there, which begs a question: why do so many pension plans and institutional managers continue to allocate so much capital to the hedge fund sector (see representative prior post “No one is surprised, but whose to blame?” Sept. 21-06)?

Here are some highlights of the Preqin May 2016 Private Debt study:

– 86% of investors surveyed satisfied with the performance of their private debt investments, which meant that “their expectations had been met or exceeded over the past 12 months”
– 18% stated that their expectations had been “exceeded”
– 54% of investors surveyed had “a positive view of the [Private Debt] asset class, far outweighing the 10% that had a negative perception”
– 26% of respondents had “gained confidence in the asset class over the past 12 months”, compared with 7% that stated their confidence had “dropped”
– a whopping 87% of investors are staying with the asset class: “46% of investors are planning to commit more capital to private debt opportunities in the coming year than they did in the last 12 months, while a further 41% plan to commit the same amount of capital”
– over the long term, the trend is excellent: “92% of investors plan to increase or maintain their allocations to private debt”, while only 8% of investors plan to “reduce their exposure”

To think that 10 years ago, most Institutions saw the debt space as providing just two flavours: Distressed & Mezz. Post-financial crisis, Institutional eyes have been opened, and the pension fund consultants have been trying to play catch-up ever since. I give credit to the LPs for correctly identifying to Preqin the three big issues facing all private debt managers:

– pricing / valuation
– deal flow
– fund performance (driven by the two topics above)

It is ever thus.

As encouraging as this data is for firms such as ours, it doesn’t bode well for the innovation economy. While 46% of LPs reported an allocation interest in traditional North American Mezzanine Debt funds over the next 12 months, only 6% said they’d be looking at the Venture Debt sector. Not that this makes any sense, given the fact that 2006-vintage North American Mezzanine Funds produced an average IRR of 8.8%, as compared to an average IRR of 8.9% for the Venture Debt cohort we track along with our 2006-vintage Wellington Financial Fund III, for example.

One thing isn’t up for debate: institutional investors are more wedded to a medley of private debt strategies (Direct Lending, Distressed, Mezzanine, Special Situations & Venture Debt) than ever. And once the banking Prime Rate rises to more normal levels, returns in the private debt world will be even more attractive.

MRM