Standing out from the crowd

The latest data from Preqin on the performance of global private-debt funds shows how returns to investors have been squeezed relentlessly over the past 10 years. Down from a more-than-acceptable 14% a decade ago, the average fund is now returning around 5-7%.

The cause isn’t hard to fathom, as more and more capital has poured into the sector. The latest annual report from PDI shows that the 50 largest managers between them have doubled their AUM over the last 5 years.

As long as inflation stayed muted, even the nominal returns of 5-7% achieved in 2020-21 provided investors with a real return. Now, however, with inflation close to double digits and showing no sign of abating (see our news blog from last July on Structuring private-credit investments in an inflationary environment), the problem facing private-debt investors is how to generate a real return in a market that is still oversupplied with capital without taking undue risk.

Our answer at Prefequity is simple – avoid the fashion for large funds that finance PE-backed buy-outs (estimated at over 90% of the market by S&P) and focus on an uncrowded niche. In our case, that means lower mid-market non-sponsored deals in the UK. Our target investment size of £5-20m is unappetisingly small for most funds over £500m (i.e. nearly the whole sector) while our focus on a single national market means we can cultivate a wide range of introducers to generate off-market deal flow. The result is an opportunity to invest in growing, profitable and cash-generative businesses on highly attractive terms that (so far, at least) have not experienced the sort of pricing pressure experienced by the mainstream.