Private credit: high-risk, high-return investment opportunity

Private credit has emerged as a growing asset class in the Indian financing market today. Most private credit platforms have flexibility in structuring credit solutions to meet the specific requirements of individual borrowers, can take on riskier exposure, and mobilise capital quickly. 

Private credit has consequently become the “go-to” solution for many mid-sized, growth-stage, or slightly stressed borrowers who otherwise may not be able to tap into the formal banking ecosystem.

What is private credit?

Securities traded on the public markets, like stocks and bonds, maybe the backbone of most everyday investors’ portfolios. But there are plenty of alternative investments that aren’t publicly available, like private credit.

In the private credit market, investors make loans to businesses and sometimes individuals who may have trouble accessing credit from banks or the public market. Because there is often a heightened risk that the borrower may be unable to repay the loan, private credit investors can collect higher interest rates than they would earn on bonds or other debt investments. Because private credit is risky and tends to tie up capital for a long time, trading generally takes place among institutional investors and accredited investors.

Large private credit flow

Several sectors have seen private credit deal flow, including real estate, financial services, technology platforms, manufacturing, and infrastructure. Fund mandates cut across a wide range of risk profiles from performing credit to stressed assets and special situations. The ability to fund multiple-use cases such as acquisition finance or sponsor-backed debt has contributed to the “flexible” nature of such capital.

Although most private credit investments are illiquid, they offer predictable and (in most cases) higher returns as compared with other fixed-income products. Such investments tend to be highly structured, and in many cases also offer synthetic equity-linked returns. Some platforms look at a combined debt and equity solution with the debt investment including a convertible instrument or warrant structure.

Greater risk, higher returns

Founder borrowers are beginning to find hybrid capital solutions useful because of a capped equity upside, limited dilution, and flexible end-use purposes. Given the complexity and greater risk involved, private credit lenders can earn higher returns on such structured instruments.

Lending strategies tend to vary with some platforms preferring to be the largest lender while others are comfortable with a syndicated multi-lender structure. The secondary market for private credit investments has not yet evolved, but as the sector grows, the market is likely to see secondary trades taking place.

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