Active or passive investments in private credit
Private credit investments are a multi-billion-dollar business in Australia, that are rapidly growing. This is in part due to the banking reforms that followed the 2008 GFC and the banks themselves limiting their exposure to certain business loans.
This has created an environment now where private capital is highly sought after by businesses, and the rise of fund managers aiming to capitalise on the opportunity.
However, as more investment managers emerge with the promises of riches, all too often returns fall short or worse yet, investors experience a loss.
This article aims to open the eyes of investors, by showing the different types of active and passive private credit investments investors have available to them, and what they should consider when deciding. In future articles “managing the risks of private credit” and “generating alpha in private credit investments” we’ll discuss what you need to do, to get higher net returns!
What are private credit investments?
Some people will use the terms of private debt and private credit interchangeably, to some in the industry there are differences. For the purposes of this article, we’ll define private credit as the provision of capital between non-bank lenders and private businesses.
Non-bank lenders can include second tier & third tier lenders, large financial investment institutions, managed funds, private individual trusts, private individual SMSFs and privately owned lending businesses.
This can also include transactions where non-bank lenders lend fund consumer lending businesses, and then these consumer lending businesses on sell that capital to consumers. Depending on the transaction type, this is sometimes referred to as warehouse facilities.
How large are private credit investments in Australia?
The answer is no one actually knows exactly, by virtue of the fact it is private. EY had estimated there were $188bn in AUM for private credit in 2024 (EY Annual Australian private market update for 2024). Whereas the RBA has outstanding private debts at $40bn representing 2.5% of business loans. Part of the large difference is due to the reporting requirements to APRA as various transactions are not recorded.
What we do know, is these figures pale in comparison to the $1.5 trillion in AUM in the US for private credit (reported by Morgan Stanely in 2024). Which means this asset class still has a long way to grow in Australia.
Why do people invest in private credit?
The main reason family office and professional investors invest in private credit is because it provides a fixed income return without the volatility of equities. This return counters the effects of inflation (which is an issue for people with surplus capital), whilst also providing a real return to maintain lifestyle options.
Additionally private credit investments can be highly secure, providing the underlying asset being used as security for the transaction is similar to what a bank would take and that the risk is managed properly.
In the case of first mortgage-backed private credit, investors are able to essentially take on the role of the bank. What this means is investors can enjoy a return above what a bank term deposit would offer them, whilst also having mortgage security similar to what a bank would take, when doing a private credit deal.
How to invest in private credit investments?
At present there are 7 main ways you can invest in private credit investments. Knowing whether you should be a passive or active investor, largely depends on your financial capacity and your desire for control!
Passive private credit investments
- Investing directly in a managed fund that lends directly to other private businesses, or invests in other private credit funds. Required capital of usually $50k plus.
- Owning equity in a publicly traded private credit business.
- There are some public securities that trace the performance of private debt funds.
Active private credit investments (required to be a wholesale investor)
- Being a direct private lender yourself and having others originate deals for you. You can lend from your SMSF or other structures. Usual required capital of $500k plus.
- Syndicating with others to do private loans. Required capital of $200k plus depending on the number of partners and transaction size.
- Providing warehouse facilities to other private lenders (where they lend your funds out on set parameters, and you take security over their loan book). Usual required capital of $3M plus.
- Being an equity owner and cornerstone investor in a private credit business ($5M plus).
The two main methods by which most people invest in private credit in Australia is either through managed funds or by being a direct private lender themselves.
Smaller investors are limited to passive investment options, whilst family office and professional investors have the option of being active investors.
Passive vs active investments in private credit
From our direct experience a number of family offices, professional investors and smaller investors who have the means to be active investors, still opt to be passive investors.
You may ask why? The answer is because they aren’t interested in micromanaging transactions, are happy with an average return and stable quarterly distributions.
Passive investment options are fine when they work, but when they don't work, they can go very wrong. Ultimately you are 100% reliant on the skill of the investment manager to make good decisions. This is why we’ve created a check list of items you need to do your DD on as a passive investor (in this article here).
On the other side you have the family offices and professional investors that we originate for, who wish to be direct lenders themselves. They want deal transparency, they wish to have their name on the mortgage security and a degree of deal control. Whilst being a direct lender comes with benefits, such as 20% to 40% higher net returns than compared to a fund. It also means higher concentration risk (as you are funding 100% of a deal) and the responsibility of being actively involved in the decision-making process.
Which way you decide depends on your financial capacity, the degree to which you desire control and your target return objectives.
Hybrid investment strategies in private credit
Several of our family office and professional investors are both passive and active investors. This will see them invest in several funds with a portion of their funds, whilst also being active lenders themselves. The reason for this, is that family offices and professional investors need to ensure their capital is constantly being utilised, as not be eroded by the effects of inflation.
The hybrid models offer family offices the certainty that their capital is constantly working for them through fund managers, it provides them with portfolio diversification and higher net returns when they are able to be direct lenders themselves.
To learn more about our private credit investments click here.
To speak to someone about your next private credit investment click here.
