Institutional investors are channeling billions into private credit funds as they seek to capitalize on the retreat of smaller retail clients.
According to data from Preqin, North American direct lending funds raised at least $16 billion in the second quarter, with these funds specifically targeting institutional capital. These vehicles form part of the broader private credit market, providing loans directly to companies without bank intermediation.
The three months ending June 25 marked the second-highest fundraising quarter in four years for these 'closed-end' funds, which raise capital from investors just once and have a finite lifespan.
The data indicates that major investors remain confident in this segment of private credit, despite some significant defaults and concerns over the sector's heavy concentration in the software industry.
David Colla, Global Head of Credit Investments at Canada's CPP Investments, stated, "Retail capital has left the private credit space as it has digested lower return expectations from loans made in 2021 and 2022."
He added, however, that "returns are still attractive," and the departure of retail capital "has left a void in the private credit market that institutional capital is filling."
Several of the largest private investment firms, including Blackstone, Ares Management, and HPS Investment Partners, a unit of BlackRock, are engaging with investors to attract capital for new flagship funds.
According to a person familiar with the matter, executives at Apollo Global Management moved up the launch of their latest flagship direct lending fund by six months to meet market demand, introducing it to potential investors last week.
These funds have not yet completed their fundraising and are therefore not included in Preqin's second-quarter data.
Brad Marshall, co-head of Blackstone's $45 billion flagship private credit fund, noted that many investors anticipate returns will increase, particularly as outflows from retail-focused investment vehicles limit the amount those funds are willing to lend.
"Volatile times are often the best time to invest capital because people are nervous, capital structures are more conservative, and pricing is wider," he added, referring to the extra interest or 'spread' lenders can charge above benchmark rates.
The demand from institutional investors contrasts sharply with massive outflows from funds aimed at smaller retail investors and wealthy individuals. Private investment groups from Apollo to Morgan Stanley have restricted redemptions from such funds, which faced over $22 billion in withdrawal requests during the second quarter.
One private credit executive remarked, "Institutional investors seem to be quite careful in how they are approaching direct lending. Leverage on new deals is a bit lower, documentation is slightly tighter, and pricing ranges are wider. Institutional investors are seeing these dynamics: the market is getting better, not worse."
Disclosures from the state of Maine show its public pension fund approved a commitment of up to $375 million in February to support Blackstone's newest direct lending fund.
The investment division for New Jersey, which oversees one of the largest U.S. pension plans, has proposed investing up to $600 million in a vehicle managed by private credit specialist Golub Capital.
The resilience of the U.S. economy is bolstering institutional optimism, even as interest rates may begin to rise if Federal Reserve policymakers aim to curb inflation. Higher rates would boost returns on floating-rate private debt.
Speaking last month about institutional demand for private credit, John Zito, co-president of Apollo Asset Management, said, "They want more. When they see the headlines, they think, great, this is going to create a lot of excess spread for us, it's going to give us an opportunity to invest."
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