- Asian executives seeking private loans to grow their businesses, as bank financing dries up due to the coronavirus pandemic
- Private credit having its moment in Asia; already a very mature asset class in the US and Europe
- Charismatic Capital to launch a private credit fund to provide secured loans to listed company entrepreneurs in Asia (fund's GCIO SCORES rating: 4.5/6)
- Time for investors to play offence through high-return and risk-managed opportunities in the growing private credit market
As the novel coronavirus further hijacks the global economy, many Asian entrepreneurs are increasingly finding it difficult to access capital, and are seeking direct private loans to support their businesses. This is particularly true in Southeast Asia, where governments -- save for perhaps Singapore -- do not have the financial or operational wherewithal to support small- and medium-sized enterprises (SMEs) and listed companies. As we know, many financial institutions retreated from the traditional stock financing business after the Global Financial Crisis of 2008, and in the current pandemic, banks have become even more cautious about their lending businesses. At the same time, the economic promise of Asia remains, and many future-oriented entrepreneurs with businesses of all types and sizes want to continue investing their resources in the region.
Figure 1: Typical risk/return profile for private credit and private equity; Source: Asian Private Banker
InvestaX recently spoke with Charismatic Capital’s portfolio manager Ching Ching Lam, who has seen a significant spike in Asian demand for “private credit”, a relatively lesser known investment asset class in Asia, but one that has consistently been the darling of institutional investors, thanks to a compelling return profile over the years. Simply put, private credit or direct lending involves providing capital to companies or projects after many rounds of bilateral negotiations, and because such arrangements are private, the loans provided cannot be traded on a public market exchange. Although private equity has typically been the go-to sector for accessing capital, private credit funds, especially those focused on providing capital to Asian businesses in the current pandemic, have never been busier. The data only strengthens our conviction from an opportunistic perspective. Results from a 2019 survey conducted by the Alternative Credit Council (ACC) revealed that only 20 per cent of all borrowing in Asia-Pacific is directed at SMEs, while almost all private credit financing demands in Europe and the US come from the SME/middle market. Furthermore, currently in Asia, there is only one dollar available in private credit for every US$24 of private equity capital. This is primarily because of the perception of an “Asian risk premium” among investors when private credit managers raise capital, as the recent report Private Credit in Asia – jointly published by The ACC, Simmons & Simmons, and EY – emphasises.
In a recent interview with The Business Times, KKR’s Brian Dillard lamented that traditionally in Asia, 80 percent of credit has been provided by banks; this proportion is very high, when compared with that in Europe (60 percent) and in the US (less than 10 percent). Unsurprisingly then, given the risk-off strategy adopted by most banks and the domestic-first sentiment across the world, business owners in Asia are desperately looking for new financing avenues.
Figure 2: Investment in Asian credit - an opportunity for a higher return on the portfolio
Source: Allianz Global Investors
In her 25-year-long career in the investment and wealth management world, Ching Ching has never seen such a huge surge in stock loan requests (over 200 stock loan requests since March 2020). That is why Ching Ching is launching an innovative private credit fund that provides secured loans to entrepreneurs who have listed companies in Singapore, Hong Kong, Indonesia and Thailand stock exchanges. This will provide her with the unique opportunity of building a truly diversified loan portfolio without compromising on the quality of the transaction. As an example, out of the 200-plus loan requests, her investment team has rejected over 50 percent of them, and only about 10 percent of them are currently in the pipeline under loan documentation. What is more, such loans will be secured against the entrepreneurs’ listed holdings of the companies they own and run. To elaborate further, while the underlying security for the fund is equity, a conservative investment structure has been put in place to ensure a high degree of collateral security. With an average lending value at 30-40 per cent, the fund will comfortably be able to withstand any major equity market sell offs while protecting the loans -- even those in non-USD-denominated currencies -- from any material damage. Furthermore, as the Global CIO Office's detailed report on the fund explains, in the medium- or long-term, the fund has a preference for income streams over equity returns, placing it in a favourable spot to take advantage of the expected post-pandemic growth in Asia.
Figure 3: Recent high-quality debt investments made by Charismatic Debt Equity Fund
From a geographical perspective, the fund’s focus on Hong Kong and Indonesia (total allocation of 70 per cent) strengthens the execution of its investment strategy. Hong Kong is the third largest and most active stock exchange in Asia and fourth single largest stock market in the world. As at January 2020, there were over 2,000 main board-listed companies with a total market capitalisation of close to US$5 trillion. Many listed companies in China prefer to dual-list in Hong Kong due to its international appeal, keeping Hong Kong’s listings business buoyant. Naturally, for the investment team, this will increase and widen the number of stock selections available for financing in this market. Additionally, most private lenders offer non-margin loans, which do not appeal to borrowers since they are typically majority shareholders and do not want to lose their voting rights. That is why Charismatic Debt Equity Fund’s margin loan financing model, which takes share collateral pledges without changes in the share ownership, is very attractive to many Chinese or Hong-Kong-based entrepreneurs. Separately, with over 650 listed companies that boast a total market capitalisation of over US$500 billion, Indonesia provides a fertile ground for this fund’s financing model. Local regulations require stock financing to be made on a sale-and-repurchase basis (which requires change of share ownership), the fund’s financing model has effortlessly appealed to many borrowers in that market.
The world is at the mercy of a looming credit crisis. A lot of capital will be withdrawn from the credit markets in the next few months, particularly in the non-bank lending sector. Right now, we encourage our investors to play offence by accessing opportunities in the private credit market, especially through innovative and secured investment strategies. The one major by-product of a credit crisis like the one we're going through right now is that there will be more promising opportunities for non-bank lenders like Ching Ching and her well-regarded investment team.