Private Credit

May 6th, 2021

by Connor Owen

The consultant considers primary lending strategies most suitable for the $66bn pension

The Los Angeles County Employees Retirement Association (LACERA) has received a briefing on Asian private credit opportunities from Albourne Partners, and will be working with the consultant to evaluate various strategies as a potential satellite addition to its portfolio.

Within the Asia private credit space, the consultant highlighted primary lending strategies – including asset-based lending, special situations, and cash flow lending – as the best fit for LACERA’s needs, with distressed mandates less suited for an initial recommendation.

The $66bn California pension has a 2.5% (roughly $1.7bn) allocation to illiquid credit, versus a target of 3% ($2bn). However, this 3% illiquid credit target may soon be subject to change – the latest updates in LACERA’s ongoing asset study point towards a potential hike in private markets exposure.

Albourne, serving as LACERA’s hedge funds and private credit advisor, expects strong returns from Asian private credit, with attractive relative risk, because the market is less competitive compared to those of Europe and the US, according to Tom Cawkwell, the firm’s head of private markets research.

“The number of funds in Asia adds up to about 70 to 80 participants, and that would compare to, say, about 800 in the US and Europe,” Cawkwell said during a presentation at LACERA’s 14 April committee meeting. “So, again, just a lot less providers of this type of solution-oriented capital competing with each other and driving down returns.”

Complexities and structural hinderances to private credit funds have kept the market less competitive. “However, over the last 10 years in particular, a lot of these headwinds have lifted and there are material, structural, positive changes that have made investing in the space a lot more attractive – as long as you are working with appropriately skilled funds,” he continued.

Cawkwell also spoke on the diversification benefits of Asian private credit: “As well as China, you’ve got India, Indonesia, Japan, Korea; all with unique economies and opportunity sets. So, there’s a great deal of diversification within the Asian opportunity set, and then each of those countries is also diversified from what’s going on in Europe and the US.”

Albourne usually sees Asian private credit implemented as a smaller satellite exposure as opposed to a core position. “In practice, clients typically invest in one to three names that might represent about 5% to 10% of their private credit portfolios… providing some additional return and diversification,” said Cawkwell.

The firm’s presentation highlighted the Asian private credit strategies that its analysts find most attractive, on an absolute and relative basis at this time. Australia is grouped into this space, as it is covered by many of the Asia managers.

“While we will be looking at all strategies, I would highlight the ones most likely to meet LACERA’s target returns with manageable risks will probably be on the primary lending side at this time; so more asset-based lending, special situations, or cash flow lending,” Cawkwell said, noting that distressed strategies are “less likely to be the initial recommendation in this space”.

Real estate lending and special situations strategies are favoured by Albourne in China and Australia, while special situations growth is preferred in the India region. Other opportunities for consideration include special situations in Japan and Korea, and special situations growth in Southeast Asia.

“We can return to this in future meetings in as much depth as needed, and will be working through in detail with your team on the exact risks and opportunities in each one of these spaces,” Cawkwell told the committee.

Risks attributed specifically to investing in China were also addressed at the meeting, although diversification and the use of shorter duration funds serve as mitigators, according to Cawkwell. “Any investment you make, you need conviction that the manager can put the money to work and then get the money out again,” he added.

LACERA’s existing private credit portfolio

Existing managers in LACERA’s illiquid credit portfolio include Magnetar Capital and Napier Park Global Capital. These firms were hired in May 2020 and December 2019, respectively, to serve as core managers in the portfolio.

LACERA’s other illiquid credit mandates are considered as legacy investments or have been transferred into the portfolio from other classes. Buildout plans discussed last year called for a series of specialised manager commitments, and more recently an emerging manager program for private credit has been drafted up.

Furthermore, the investor is also considering a new private credit allocation in its $2bn OPEB trust fund, which currently includes only public market asset classes. Meketa Investment Group is leading both asset studies, and is expected to bring a final recommendation to LACERA by the end of the second quarter.