Alternative Investments: More Than Just Private Equity
Private equity is the first thing that comes to mind when we talk about alternative investments, but there is another one: private debt.
While private equity is often the first thing that comes to mind when we talk about alternative investments, there is another equally interesting asset class: private debt.
What is private debt?
Private debt, or private credit, is the provision of financing to companies by funds rather than by traditional banks.
Here is an example: The company Auto Inc. wants to expand its automobile manufacturing plant to increase its production and revenues. However, it will need $100M to do so. Instead of seeking this financing from a traditional bank, it turns to the institution Je Finance Inc. to obtain the funds it needs. The company Auto Inc. will therefore have to repay the debt to Je Finance Inc. and its investors according to the terms of their agreement. This debt is therefore private debt.
In established markets such as the United States and Europe, private debt is often used to finance corporate buyouts, although it is also used as expansion capital or to finance acquisitions.
A bit of history
The adoption of private debt is a relatively new trend in alternative investments. The recent increase in private debt assets under management arose from the global financial crisis, when banks, the traditional lenders, turned away from riskier loans and private, or direct, lenders filled the void.
Private debt funds offer several advantages for investors, including higher returns than traditional fixed income.
Why invest in private debt?
A prudently managed private debt portfolio offers the following advantages:
- Portfolio diversification.
- Low correlation with public markets.
- Lower risk than private equity, because debt ranks above equity in the capital structure.
- Opportunity to acquire corporate debt at a price below its face value.
- A good alternative to fixed-income investments.
In short
Private debt is an attractive asset class that has gained popularity since the global financial crisis. Private debt could have a place in your portfolio because this asset class is less risky than private equity or stocks while offering a good return. It is much closer to fixed income, but allows you to seek a higher return potential than the latter. Do not hesitate to contact me with any questions!
Source: Preqin article
Risks and constraints you need to understand
Like any investment, private debt carries risks, and it is essential to understand them before allocating a portion of your portfolio to it. A higher return potential than traditional fixed income generally comes with additional risks, including:
- Credit risk: the borrower may be unable to repay its debt, in whole or in part.
- Limited liquidity: these investments do not trade on an exchange, and redemptions may be infrequent, capped or suspended depending on the fund’s terms.
- Less frequent valuation and lower transparency than publicly listed securities.
- Sensitivity to economic conditions and interest rates, which can affect borrowers’ ability to repay.
- The possible use of leverage in some funds, which can amplify losses as well as gains.
Liquidity and investment horizon
Unlike an exchange-traded fund or a listed stock, a private debt investment generally cannot be sold overnight. You need to be prepared to lock in your capital for several years, depending on the terms of each solution.
That is why this type of investment should be reserved for money you will not need in the short term, and should represent a carefully considered portion of your portfolio — never all of it.
Who can invest in it?
Access to alternative investments is regulated. Some solutions are reserved for specific categories of investors — accredited investors, for example — or come with minimum investment amounts.
Beyond regulatory eligibility, the real question remains suitability: whether private debt makes sense for you depends on your investor profile, your risk tolerance, your investment horizon and your overall financial situation.
Talk it through before acting
The information in this article is provided for informational purposes only and does not constitute a personalized recommendation. If you are wondering whether alternative investments could have a place in your strategy, the best first step is to look at them in light of your goals. Contact the Pérennité team — together, and without pressure, we will assess whether this asset class is right for you.
