The private debt market has hit $2 trillion in assets worldwide according to some estimates—but it is not a straightforward asset class to navigate, according to Mercer.
Sanjay Mistry, director of private debt at the consultant, said the amount invested by Mercer clients in private debt had grown substantially in the past three years, from $400 million in 2011 to $4 billion in 2013.
As with any new asset class, however, Mistry warned investors to be wary of the limitations of the sector.
“Those with tight or non-existent governance budgets can expect to struggle with [private debt] and may suffer lower returns with higher risk.”—Sanjay Mistry, Mercer“As private debt investment remains new to a majority of investors, many are learning lessons the hard way: through trial and error, potentially ending with poorer performing portfolios,” he said.
Mistry argued that manager selection was as important as strategy in private debt, as there were a limited number of managers with sufficient experience and resources.
“Choosing the right managers is vital to a successful investment in private debt, but unfortunately, some investors become fixated on an investment strategy and ignore the manager selection aspect,” he said.
“Only after they are locked in with their idea do they pursue available managers. This more often than not has proven detrimental, as the investor becomes more focused on investing today or with a particular strategy than with someone with the experience to carry it out over the longer term.”
Mistry also warned first-time investors not to expect their cash to be allocated immediately, as some funds have multiple fund-raising periods but can take up to three years to put the money to work.
“This is difficult to manage in house, and investors could be indirectly putting their portfolios at increased risk by not spreading their exposure,” he said.
Mistry added that the limits of private debt—particularly the level of illiquidity and limited fund-raising periods—meant investors “need to approach this asset class with the ability to invest significant time and resources to find and plan their portfolios”.
“Those with tight or non-existent governance budgets can expect to struggle with the investment and may suffer lower returns with higher risk,” he added.
But Mistry ended on a positive note, maintaining that the private debt market would continue to grow and deepen, with more managers and more capacity, and support from government initiatives.
“What was once an opportunistic play has become a viable choice for adding to a growth portfolio,” he said.
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