Private credit firms are looking to get their share of an estimated US$178 trillion personal wealth market by offering individual investors what looks almost like a mutual fund.
The product, called an interval fund, is being pitched to registered investment advisers as an easy-to-sell entry into direct lending. Interval funds are being offered in amounts as low as US$1,000 and can be purchased online through brokerage accounts, unlike larger investments that require multi-page subscription agreements.
KKR and Capital Group plan to launch hybrid public-private interval funds in 2025. Blackstone is considering launching an interval fund in the near term that will include a private credit allocation, according to a person with knowledge of the matter. A company representative declined to comment.
T Rowe Price Group and its Oak Hill Advisors filed with the Securities and Exchange Commission (SEC) to launch their first private credit interval fund, joining firms including Ares Management, which partnered Cion Investment, Carlyle Group, KKR and Cliffwater. When interval funds investing in equities and liquid credit are included, the sector has grown almost 40 per cent per year in the last decade to US$80 billion, according to Morningstar.
“With other fund types, investment advisors have to do two things. They need to bring the fund to their clients for approval and then ask them to fill out a bunch of documents,” said Adam Kertzner, senior partner at Oak Hill. “With interval funds, they can potentially buy and sell them on a discretionary basis for their clients and avoid unnecessary paperwork, making for a more user-friendly experience.”
Seeking investors
The capital raising represents a shift in the US$1.7 trillion private lending market, where until now large institutions and ultra-wealthy individuals were targeted as investors. But private credit funds are finding it harder to raise capital from the largest investors as still-high interest rates weigh on financial assets.
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With quarterly inflows from the biggest investors near multi-year lows, according to data provider Preqin, small investors are becoming an increasingly important feeding ground for private credit firms.
“There has been a ton of interest from private credit managers in interval funds lately,” said Jonathan Gaines, a partner at Dechert who advises registered funds. “It’s an attractive offering for funds that want more investment flexibility and a way to easily broaden their distribution channel to areas like RIAs.”
Gaines said he personally is working on starting four or five different interval funds.
Interval fund managers must file a prospectus with the SEC, and once a fund is launched can work with RIAs and other distributors on finding buyers.
Run Risk
A key risk to investors is a potential surge of redemptions in a fund, the kind of event that produces losses in a panicked, sell-first market. Interval funds must meet such requests, up to a certain amount in a specific period. Institutional fund investors have no right to redeem on demand, though direct lenders have the option of honouring requests.
“Interval funds carry a higher risk of having a liquidity mismatch problem as they can’t turn off redemptions like a BDC can, which will hold them indefinitely if needed,” said John Cox, founder and chief investment officer of Cox Capital Partners, referring to business development companies, the type of non-traded investment fund offered primarily to high net worth individuals and institutions. “Interval funds facing redemptions in a distress scenario might be forced to sell assets at the worst possible time to generate cash.”
Of course, to hedge against any run-on-the-fund scenarios, interval funds tend to hold more-liquid assets and to be more diversified across various credit types.
Direct lenders expect interval funds to become more commonplace in part because they can use a network of more than 15,000 registered investment advisers throughout the US to help raise capital.
“We are targeting US retail RIA advisers and not looking to sell into the more crowded wealth channel,” said Matthew Pallai, chief investment officer at Nomura Capital Management. “We were looking at the growth in the space over the last few years and view BDCs as starting to mature.” BLOOMBERG
