If, like me, you spend most of your time working in the investment industry, you will hear many different opinions on private credit: On the risks
that it poses, the return characteristics, the role that it can play in investors’ asset allocations.
➡️ Unfortunately, these opinions are often stated as if they were hard, observable facts. Worse still, they often contradict each other. So I think it is worth asking ourselves: What do we actually know?
➡️ One way of answering this question is by looking at the rapidly expanding academic literature on the topic. Fortunately, Prof. Victoria Ivashina of Harvard Business School has done this for us. In the working paper (a link to which I will include in the comments), she gives an expert overview of the relevant research on private debt. The paper is surprisingly accessible and well worth a read for anyone investing or interested in the space.
Some points I found interesting:
👉 In addition to the familiar story of bank consolidation and post-GFC bank retrenchment, the paper makes a compelling case for demand-side forces driving the growth of private credit. The strong growth of private equity and the role of private credit in financing companies that fall outside of the scope of the traditional banking model both feature, for example.
👉 I also appreciate the nuance in the analysis presented. For example highlighting the different historical periods of how PE transactions are financed—Post-Covid-19 is shown as a distinct period characterized by private credit aggressively starting to compete against the leveraged loan market.
👉 And does academic research say that private debt is an attractive asset class for investors? It appears that the jury is still out. The literature highlights the difficulties in assessing the performance of private credit funds fairly and does not appear to offer a strong verdict in either direction. One study cited finds a substantial alpha when treated as debt, but an alpha of zero when equity exposure is accounted for.
➡️ Prof. Ivashina's paper provides a valuable overview of the literature as it stands and covers much more than I have mentioned here in my short post.
I believe we are still in the early stages of academic research on private debt as an asset class—It will be interesting to see what we learn in the next few years as the asset class becomes even more mainstream.
Disclaimer: Not financial advice, all mistakes are my own.