I’m always curious when I hear about an investment class that I’ve never heard of before. Sometimes my reaction is “What in the world could they be thinking?” (as with SPACs and cryptocurrency). Other times I think…hmmm…
Investors are flooding into funds that specialize in private debt. Many claim to offer mouthwatering returns at extremely low risk, but those claims depend on an unrealistic definition of ‘risk.’
By Jason Zweig, The Wall Street Journal, April 28, 2023
One of the hottest areas in markets today is the fund holding private investments…Many funds investing in private credit, or nontraded debt, say these assets offer mouthwatering returns at extremely low risk…
These funds specialize largely in direct loans to small and midsized companies. They’re part of the long boom in alternative investments, or assets other than mainstream stocks and bonds…Private debt produces attractively high income and helps diversify portfolios consisting mostly of traditional stocks and bonds.
The corporations and other borrowers that incur private debt are hungry for capital, so they have little choice but to pay rates that can hit 11% or more.
The loans are typically short term, maturing in seven years or less. They tend to pay floating, rather than fixed, interest rates. So they don’t suffer severe losses when rates rise. …
[snip risks including illiquidity and high fees]
What if, instead of buying the funds, you bought stock in the firms offering them?
“If you buy the stocks, you’re getting a share of the fee income and the upside of their portfolios if they deliver returns like they have in the past,"… [end quote]
There’s an amusing quote in the article. Testifying at a U.S. Senate hearing on mutual-fund expenses in 1967, economist Paul Samuelson said that after realizing how expensive some funds were, “I decided that there was only one place to make money in the mutual-fund business—as there is only one place for a temperate man to be in a saloon, behind the bar and not in front of the bar.”
Maybe that’s not a crazy idea. The only company on this list that looks remotely attractive is Carlyle.