Income Insurance warns of falling standards in private credit

The rapid growth of assets under management (AUM) in private credit is leading to deteriorating standards among some managers, and increasing the challenges for insurers to select the best ones, according to a senior executive at Singapore’s fourth-largest insurer. 

“Some managers might be tempted to deploy quickly without the rigour they typically had [previously]," Jeffrey Tan, general manager, financial management at Income Insurance in Singapore, told AsianInvestor. 

"There is pressure to be less rigorous for some players, so striking that balance is important.

Tan noted that choosing a private credit manager was becoming more challenging, even as the asset class had become a larger share of the insurers’ allocations. 

"Growing AUM isn’t bad for managers: they can afford more people, expertise, hardware and taking on opportunities in origination which smaller players would not be able to. But growing at the expense of the quality of evaluation and structuring of potential deals is a risk."

Jeffrey Tan

Income Insurance

He noted that the competitive forces between managers are more intense now: "It is harder to judge good managers because there are a lot more players now. This field is growing so fast. There is a significant competition for capital across countries and continents,” he said.  

AsianInvestor reported in September that Income Insurance had committed $780 million to private credit in 2023 and anticipated the same magnitude of commitments this year. 

RAPID GROWTH

With the rapid growth in investor allocations to the sector, many commentators have warned of slipping standards as managers rush to deploy cash and the competition for deals results in weaker underwriting standards. 

The IMF in its April Financial Stabililty Report warned that private credit’s rapid growth, and the accompanying pressure on managers to deploy capital, “may lead to a deterioration in pricing and non-pricing terms, including lower underwriting standards and weakened covenants, raising the risk of credit losses in the future.”

Tan acknowledged that underwriting standards were falling in some parts of the sector.

“The only way some of these managers can be competitive is to provide the cheapest funding or the lightest covenant to a small and medium enterprise. If they deploy quickly, they know they’ll earn more fees, and the danger is that their discipline will weaken,” he said.

Yet Tan said the rewards for investing with the major private credit managers were still significant, and that Income was doubling down with favoured names. 

“We have significant allocations to the bigger players. Yes, there is a pressure to drop standards but not all the big ones will submit to the pressure created by the need to deploy capital.

"There are a few who have maintained their standards, and we’ve doubled down and tripled down with them.

“We have also allocations to smaller firms who have that same rigour and are innovative in their ways and target a different segment of the market," he added.

"What we ultimately want is good risk-adjusted returns for our policyholders and shareholders,” he said. 

CAREFUL SELECTION

When it comes to choosing external fund managers Income has targeted companies that have not rushed to deploy at the expense of underwriting standards.

Tan said he was comfortable if an investment manager grows very quickly if it does not appear to have origination pressure. 

“All managers say they are very strict in terms of identifying, evaluating and structuring deals so you need to look carefully at what they actually do,"he noted.

"For us that is a very laborious and time-consuming process: understanding the investment manager’s vision and strategy and looking carefully at the approach of the top executives, their investment principles and the rigour with which they apply them." 

Tan emphasised the importance of maintaining close contact with managers to ensure that standards were being maintained.

“You can see the metrics they use and how they have applied them in the past, but a lot of this is a judgement call.

"It’s about talking to founders, co-founders, and managing directors within the private credit [specialist] managers or within the private credit vertical of larger managers. It’s a science but it’s also an art,” he said.