The head of direct private investments at MassMutual says the US life insurance company is seeking unique niche opportunities in private debt strategies and believes the asset class will outperform private equity (PE) over a 10 to 15-year horizon.
“I think private debt, middle market and corporate private debt in the US, and in Europe particular, will outperform private equity at a benchmark level over the next 10 to 15 years,” Phillip Titolo told the audience at AsianInvestor’s 14th Institutional Investment Week Korea on Wednesday (June 23).
Speaking at the opening keynote, he said he predicted lower middle market private debt strategies yielding 500-700 basis points above the London Interbank Offered Rate (Libor).
In contrast, he thinks private equity funds today are buying companies with more equity than in the past.
"[As a result] multiples would have to expand significantly to match the type of returns that we've seen in private equity over the last 15 years."
Unlike many other investors, MassMutual evaluates the success of its private equity investments based on total multiple on invested capital (MOIC) – a return metric that compares an investment's current value to the initial amount of capital put it – rather than internal rate of return (IRR).
He explained that private equity investors are using subscription lines to inflate IRR.
“If the leverage is cheap and produces a better return on a cost-of-capital basis, it will make the IRR look better than the total MOIC will over longer periods.”
FINDING NICHE OPPORTUNITIES
Given tightening spreads, investors will need to track down niche opportunities in private debt, Titolo said.
Spreads indicate the surplus return on corporate bonds relative to public fixed income. The spread between US treasury yields and high-yield bonds was 3.14% on Monday (June 21), compared with 6.02% at the same time last year.
“We're spending our time looking for unique niche opportunities in the private debt side, where we can get a spread premium for that liquidity,” he said.
Titolo noted that private asset-backed securities (ABS), private placement debt and infrastructure loans were areas in which he believed spread premium was still to be found. In contrast, he questioned the long-term sustainability of credit card and auto loan ABS.
“I don't want to paint the picture that private ABS is a blanket buy for us. It's something where we're really having to choose and pick our spot,” he said.
He is also wary of sectors such as energy infrastructure, where he sees persistent structural problems. “I think there was a massive overbuild in some infrastructure to support the energy fields in various parts of the US.”
As a mutual company, the $200 billion US life insurer is owned by its policyholders and manages both a liabilities-matched portfolio and the company’s equity base.
The first portfolio comprises mainly fixed income, bonds, private assets and private debt, Titolo said, while the second is looking for a total return to multiply over time.
Like most life insurance companies in the US, MassMutual’s asset allocation is composed of roughly 85% fixed income, considered the safest assets, and 15% in higher risk assets such as equity and real estate and distressed debt, he added.
It also wholly owns investment management firm Barings, which it acquired in 2005. As of June 2020, Barings had over $346 billion assets under management.
Summarising his investment ethos, Titolo said it was important to have a long-term strategy, ensure prudent asset-liability management and to be aware of the "human aspect" of investment managers:
"What biases or different angles might they have that they can't get their head around and that will have an impact on their investing?"
AsianInvestor’s 14th Institutional Investment Week Korea concludes on Friday (June 24).T
This article has been edited to clarify quotes by Phillip Titolo and that MassMutual acquired Barings in 2005.