Subscribe
Share
Share
Embed
It seems that over the past few months, you could sum up the troubles facing private credit with one word: ‘illiquidity.’ This is a key tenet of the asset class, and it is often cited among the reasons for private credit’s premium. But it also can pose challenges, as seen through record redemption requests from non-traded BDCs and the dilemma of managing the tail end of a fund’s life.
Two paths to manage those challenges are to raise more money and engage in secondary transactions. So, who better to ask about this moment in private credit than Campbell Lutyen’s global head of private credit Jeffrey Griffiths, whose team leads private credit fundraising and secondaries advisory.
In this episode of Cloud 9fin’s Private Chat series, reporter Tom Quinn checks in with Griffiths to learn about the state of the fundraising market and how secondary transactions are taking shape.
Have any feedback? Send us a note at podcast@9fin.com — thanks for listening!
Creators and Guests
What is Cloud 9fin?
Leveraged finance, distressed debt, and private credit drive today’s markets. Cloud 9fin delivers expert insights on high-yield bonds, syndicated loans, direct lending, and debt restructuring. Join top analysts and investors as we explore credit markets, special situations, and private debt strategies shaping the industry.
From credit risk assessment to institutional credit trends, each episode provides actionable intelligence for fund managers, institutional investors, and financial professionals. Whether you’re tracking high-yield issuances, analyzing corporate debt, or uncovering distressed debt opportunities, we’ve got you covered.
Through its AI-powered data and analytics platform, 9fin provides everything you need to get your head around credit or win a mandate — all in one place. We help subscribers win business, outperform their peers and save time. Stay ahead in leveraged finance market trends—subscribe now for expert discussions on the forces moving global credit.
Tom Quinn
Hello and welcome to Cloud 9fin. I'm Tom Quinn, a reporter on the private credit team. And today we're going to talk about one of the major themes of private credit, which has been liquidity management. It's happened over the past six months and the high profile credit meltdowns that we saw last year, combined with some concerns over software, have led to record redemption requests from BDCs, non-traded BDCs in particular.
That has led to funds having to gate their funds in order to manage the liquidity. So that's happening at the same time as when we need more liquidity, we're seeing this ballooning credit secondaries market. And as that market improves, you're seeing more activity, both in continuation vehicles, but also loan sales.
And so today we have Jeff Griffiths, who's the perfect person to talk about both of those dynamics in private credit. And Jeff is the global head of private credit. at Campbell Lutyens, which is a leading private credit fundraising, but also secondaries advisor. Jeff, thanks for being with us today.
Jeffrey Griffiths
Tom, thank you very much for having me. Really happy to be here.
Tom Quinn
Awesome. So also Campbell was just acquired by Lazard, which shows a huge strength in the market. And also this dynamic that's playing out across Wall Street, which is a developing or continuing to develop the private capital spaces and advisory market. So it's the perfect time to talk to you about this. And just before we jump into it, can you give me a little bit of background on you and what you do at Campbell better than my introduction?
Jeffrey Griffiths
Sure, absolutely. And thank you for mentioning. We're super excited about Lazard CL. Just a quick word about myself. I've been in this role for just over 10 years, partner at the firm, and I lead the credit efforts at the firm globally.
Jeffrey Griffiths
I've had a 25-year career now in financial markets, investment banking, capital markets. About 18 of that have been in private credit, 17, 18. So I've been fortunate to be in this private credit market now since the very beginning of it and it was emerging out of the GFC. And I've seen the market grow and develop into what it is today. It's super exciting, dynamic, diverse market that offers institutional investors and now increasingly a wider array of investors exposure to something they just didn't have before.
And I think that's one of the most fundamentally exciting things about our market is that if we rewind back to the start of my career, investors didn't have access to this private credit activity. It was done on balance sheets of banks. It was done on balance sheets of insurance companies. And pension funds just didn't have access to this. Endowments, foundations, it's just not something they had access to. It was the privileged domain of banks. And so it's been great to see this market grow and develop to be a small part of being able to bring this market to what it is today. And yeah, I've built the last over 15 years of my career in this market. It's been incredibly exciting, dynamic, and I can certainly say the last few months have been some of the more exciting and dynamic that I've seen in my career in this space.
Tom Quinn
Exactly. So that's the perfect transition. We want to start is the past few months. As we mentioned at the top, the gating of the non-traded BDCs has caused some liquidity concerns, but it's also shown that fundraising now is pretty different than it was as private credit was a growing asset class and people were starting to learn about it. So as you see this dynamic playing out, especially the BDC, it's the easiest place to see it happen in public. What's the pitch for direct lending right now?
Jeffrey Griffiths
Well, it's really, you have to go back to the fundamentals. Direct lending, what is direct lending? It's private lending, bespoke bilateral structures. It's sub-investment grade, which by that we mean the borrowers are BB, B, credit quality, levered up to three, four, five times total debt to EBITDA. So this is risky lending. This was never, you know, no one ever should think that direct lending and sub-investment grade lending is sort of safe, secure. Yeah, it's mostly seen as a secured first lien, but the credit profiles are generally on the riskier side.
And that's something I think investors and everyone needs to remind themselves of. But the pitch is that, why is this market attractive? The equivalent public market to private credit is broadly syndicated leveraged loans and high-yield bonds to a certain extent. But broadly syndicated leveraged loans is the equivalent public market. And so when anyone ever is an asset allocator looking to move between public and private markets, what does the private market offer? It still offers better returns.
And according to some of the numbers that we've run, the direct lending market, if you look at the Cliffwater Direct Lending Index, which I think is a very good compendium of returns in the market, has outperformed broadly syndicated loans in 18 of the last 20 years. And then consistently, when you run those returns through a 20-year cohort, it's outperformed broadly syndicated loans by about 500 basis points. So I think the pitch is basically fundamentally down to returns. The private credit direct lending markets are more likely than not in most years and in most economic circumstances going to offer a better return to investors than public market equivalent.
Now, the corollary to that is the liquidity point, right? And it's an incredibly important point. It's more important for retail investors than it is for institutions. Institutions can lock their capital up. They don't need, generally, a lot of liquidity. They don't really care whether they can get out of something in a quarter or two quarters. It's just not something they care about because they're looking to generate returns over 5, 10, 15, 20-year horizon. But if you're dealing with a less sophisticated investor or retail investor or even some high net worth investors, liquidity is very important to them. So then the question becomes, is private credit appropriate for that investor that needs liquidity versus the public market equivalent? In many cases, it's not actually appropriate.
And I think one of the big lessons learned from this market, and I think clearly a lot of investors will be, retail investors will be saying, I may have bought into a private BDC. I thought I might be able to get out. I actually can't get out when I want to. Is that the right investment for me? Or should I be invested in a broadly syndicated loan mutual fund? Or should I be invested actually in what was the original retail vehicle for private credit, the publicly traded BDC? Those are the ones that you and I can go buy on the stock exchange through our broker today. And those have been around since the 1990s, late 90s, early 2000s. So I think those vehicles have been, or should really be the classic retail fund vehicle.
And the pitch is, right now you can buy a lot of those at significantly discounted values. The publicly traded BDCs are trading some at material discounts to NAV. Some investors may view that as an interesting opportunity to acquire portfolios at a discount. So I think direct lending, just to summarize my answer to your question, it has proven over many years, over two decades now, that it can generate better returns over a long period of time. And that's through the GFC, through the energy price volatility in 2014, 15, 16, and through COVID.
So I think investors looking at this market should, again, remind themselves that it's risky, but also remind themselves of the long-term return generation.
Tom Quinn
Right. And when you say the pitch is in those publicly traded vehicles, you are specifically saying for retail investors, right? Are you also saying for institutional investors?
Jeffrey Griffiths
Not necessarily, because I don't think a lot of institutions want to own big blocks of shares in publicly traded BDCs. They could. They could do that. It could be an interesting way. If some are trading at significant discounts, that might actually be an interesting way. In fact, if you think of what's happened, the dynamic between the private BDCs and how those structures work, it's taken the market several months to figure it out. They actually are stable structures because they only allow out up to 5%. And actually, most of them don't have to allow anything out, actually. They have the optionality to not let anyone out.
Most of those funds will want to meet up to 5% per quarter. That's not going to put a significant burden on those funds. But the point I wanted to make there is that they offer people out at NAV. So, they offer to give you your used shares back at NAV. And a lot of times, if you're in a private BDC with a large, well-regarded manager, they will also have a publicly traded BDC that's in a relatively similar portfolio. So, if you're a rational investor, you may redeem at NAV in the private vehicle and then go buy the shares at a discount in the public vehicle. And you're essentially recreating your portfolio at a discount, which creates an incentive, actually, for more people to want to redeem from the private BDC at NAV and move into something else at a cheaper value. So, there's a bit of that playing out.
But I think overall, I think that I expect to see continued share. I don't actually like to call them redemptions, because I think redemptions is more of a mutual fund or a hedge fund term. These private BDCs, all they're offering to do is, it's a share repurchase program. They're saying to the investors, OK, you have your shares. If you want to tender them back to the fund, we may buy up to 5% of them in any quarter. So, it's a share repurchase program at NAV, and that's how they work.
It's a stable structure. It was actually designed going through the GFC, the lessons we learned. And this was very frustrating, actually, earlier this year, when a lot of market participants were trying to run analogies between this situation and the GFC. That was very frustrating for many of us who've been through the GFC. Because this is really very, this is not nothing like that. There, there was a very significant mismatch between assets and liabilities. There was a significant amount of liquid assets that were on bank balance sheets with the wrong liability structure.
Here, essentially, what we have is a private asset that's being packaged in a private fund. Private BDCs are private. They're closed-ended vehicles. And you have a liquidity mechanism, which is allowing people out 5% a quarter and no more than that. So, actually, it's quite stable. And it means that those funds aren't going to be forced-selling assets. I don't believe they would have any reason to force-sell assets. They will just have to move into more of a defensive position, perhaps hold more liquid assets, hold more cash in those portfolios, in the anticipation that they're going to have to repurchase 5% of shares every quarter.
Tom Quinn
Right. And so, it sounds like what you're saying is the skittishness that we're seeing with the non-traded BDCs, the investors in those, is a little bit boxed into that type of a vehicle. But when you're going out and trying to raise money from institutional LPs for direct lending funds, maybe SMAs, you're not seeing that same dynamic play.
Jeffrey Griffiths
No. So, we have seen some softening of demand, even from institutions. So, I think really what that is, it's not necessarily concerns about structure. It's more of the concerns about, has lending in private credit or direct lending gotten too aggressive? Are there certain sector overexposures that we should look at? Those are all legitimate questions.
At the end of the day, investors in private credit are taking default and loss risk. They're taking default loss sector risk, company risk. This has always been the case. So, yeah, it would be wrong for me to say that we haven't. We have seen some, definitely some institutions pause, some institutions step back and say, do I have the right mix in my credit portfolios? Should I change things? Should I pause here? Should I overweight there? That is definitely happening.
But we are definitely not seeing any wholesale institutional pullback from private credit or direct lending at all. It's still a growing market. I think, by and large, we see institutions, and by that we mean pensions, insurers, endowments, foundations, large family offices, they still are generally either growing their private credit allocations or keeping them stable. And so, we're not necessarily seeing a skittish reaction from them.
Tom Quinn
So, on that too, I mean, obviously, private credit is a massive asset class, and direct lending is just one of them. And as you see people either reallocate, are they thinking about allocating out of private credit or just reallocating within private credit? So, saying maybe we'll give a little less to direct lending and more to ABF or a different type of private credit structure.
Jeffrey Griffiths
I think, largely, when we talk pension funds, insurance companies, those are real large institutions. They're not allocating away. They're allocating into other parts of private credit. So, we are seeing a definite focus on more asset-backed and asset-based lending. And this is something that we've been trying to get investors to do for years now. And we spotted this opportunity several years ago, where we looked, for example, at the infrastructure debt market, where you have private credit against private infrastructure assets, large, stable, contracted assets, capital-intensive, but easy to understand.
A lot of institutional investors just don't have infrastructure debt as part of their allocation. And they really should, in our opinion, because if your core allocation is just direct lending, that means that you are mostly in sponsored private equity deals. It's very asset-light companies, so services, businesses, IT, software, healthcare. And you're not really getting a real broad diversification of the real economy. You're certainly not getting exposure to hard assets.
We think hard assets are important for people to get exposure to. And we're now seeing increased interest in that market from investors, finally, after spending several years and working with some really great clients in that space. And we have been raising money. But it's now become easier because we are seeing investors really look at their private credit portfolios and realize that a bit more asset-heavy exposure would be appropriate to balance things out.
Tom Quinn
Right. And so the other area that's been very interesting to watch over the past few months has been geopolitics and looking at the types of investors and where they're investing. So we've had since 2026, an issue over Greenland, which has caused issues with Europe, especially Scandinavian countries. Then we've also had an Iran war, which has caused issues with the Gulf countries.
Are you seeing any change in the behavior of the funds, the institutional investors that are based in those regions as they look at their U.S. capital right now?
Jeffrey Griffiths
Yes. So we are seeing some, certainly a change in certain European investors that would like to allocate more locally to their own local European strategies. And it's not necessarily a bias against the U.S. per se. I think it's more for them, how can we invest more closer to home? How can we invest in, and for Europeans, there's an enormous amount of infrastructure investment and defense investment that they need to engage in. And so I think responsibly they're asking themselves, how can we do more at home?
The challenge they face is that the U.S. markets are just so much bigger and deeper than what any European private market can offer. European private markets are great. They've been around for many years, private equity, private credit. They are deep. They're diverse. But if you're a large institution, it's very hard to avoid investing in the U.S., very, very difficult. And if you were to just focus on your home market, you might end up with certain concentrations that are perhaps not desirable.
So we are definitely seeing preferences for European investors to stay closer to home, do a bit less in the U.S., and that's translating into more, perhaps easier fundraising conditions for European strategies versus U.S. strategies. But I wouldn't call that anything dramatic at this point, but it's definitely happening. It's definitely happening, and it's created more challenges for U.S. fund managers that are trying to raise money in Europe.
Tom Quinn
Right.
Jeffrey Griffiths
In the Middle East, a bit too early to tell, we have not seen a frequent visitor there. We haven't seen much pullback. I think clearly there's been disruption in terms of working patterns and people being in and out of the office, and it's been an incredibly difficult time for staff on the ground in that region.
But we haven't seen really any difference in behavior from them yet. But they could potentially have significant internal investment requirements in defense required, depending on how things play out. And so that may affect what those... Because a lot of the capital there is sovereign capital. It's national sovereign capital. And if the countries need to invest more locally, that will impact fundraising internationally. That will mean that fund managers looking to raise money in the Middle East will find it harder. But at this point, we have not seen that yet happen.
Tom Quinn
So the concern is that it's more of a nationalistic response, not anti-American, but pro your own region.
Jeffrey Griffiths
I think so. I mean, I think clearly I would be wrong to say that there isn't some frustration with the behavior of certain administration officials versus Europeans being frustrated with that. But again, I think the institutions have a fiduciary duty to their stakeholders, their pension holders. They don't have a fiduciary duty to their governments. Now, sovereign wealth funds do, but if you're a pension fund in a Nordic country, you need to look after your stakeholders, by and large. They may have other rules. But your job is not to please the government in Sweden or Denmark.
And so that's why then you come back to the point of, well, then if that's my job, then I can't not invest in the US because it's such a deep market, such a diverse market. It offers so much more selectivity than other parts of the world that it's almost a necessity.
Tom Quinn
Right. That makes sense. So then the other area that's pretty interesting is some of the legal changes and docs changes that have happened in capital deployment for private credit, especially direct lending. And the fund structures as the asset class starts to mature have started to get a little bit complicated, especially on the deployment and also the fund structure side. How much are LPs wanting transparency into the docs that their managers are using? Or how much are they wanting to control what managers can and can't do when they want to deploy that money?
Jeffrey Griffiths
I mean, I think one of the advantages of being an institution and investing through GP-LP structures, so the traditional drawdown private market structure, is that it does offer the LP more, I would argue, more say in the governance of a fund, more of a role, more transparency, than if you were to invest in a BDC, which is a regulated vehicle. It's a 40 Act vehicle. It has a lot of rules and regulations. But you're a bit more of a passive investor in those types of vehicles in some regards.
And so I think that, yeah, investors are looking for, particularly investors that have large pools of capital, they're allocating significant tickets to certain investors. They are in a position of influence. They can make changes or request changes in documentation, fund documentation in their favor.
And fundraising is generally challenging. It's always been hard in private credit. And investors have always been very much, they're not, I want to say, in the driver's seat, but they do have a lot of influence and control. So we are seeing some improvements there for LPs. But what I would also say is, I think that also transparency is really good, I think, in private credit. I think they're particularly direct lending. Direct lending is, if you're in a direct lending fund, you pretty much see everything. You see all the line items. You see all the companies. You see the industry, the interest rates, the terms, the leverage. It's all there. If you're an investor, you can see it.
But that's not necessarily the case in other parts of private credit, particularly asset-based lending. And there's a bit more opaque, less transparent, because you have hundreds of thousands or thousands of underlying loans in those platforms. So it's much harder. Transparency is not as strong. But I think in direct lending, it's quite strong. Or in corporate credit strategies, it's pretty strong. So LPs, yes, absolutely are looking for more to control their inference. If you're a really big LP, you'll just do a separate account. And then in that separate account, you'll have a bilateral agreement with the manager. And then in that agreement, you may be able to set up quite a lot of flexibility and transparency and optionality into your documents.
Tom Quinn
Right. And on that, we see LPs that want to be exactly that, which is just a limited partner. But there's also more activity from some LPs to be either co-invest or directly participating in these loans through buying them on the secondary market, for example.
Jeffrey Griffiths
Yeah.
Tom Quinn
Is that changing the dynamic when you go out to fundraise now, where certain LPs that want to be more active participants are acting a little bit more like managers than they used to?
Jeffrey Griffiths
It does. So, we do see more and more investors basically say, I'm sorry, I'm not interested in the fund you're selling me. I'm more interested in, can you sell me a portfolio? Can you show me a direct deal? Yes. More of that is happening. I think that that's also only natural as the market matures and as investors are able to bring in teams in-house. I think there's a limitation to that, though, as well.
And I go back to what I said earlier about this market is risky. These are risky loans. These are B, BB loans. A lot needs to go right in five, six, seven years for the company to pay you back at the end of the day. And so, the point I'm trying to make there is that it's hard for LPs to hire these teams to pay them what they would get paid at managers. And then to manage that risk internally when it's directly on balance sheet is somewhat difficult. So, I think we are seeing more direct participants, particularly with larger pools that are well-resourced and that have the capability to hire talent. But there's a limitation.
We have also seen the opposite. We have seen recently some larger, traditional, more sovereign-like LPs who have traditionally been very active directly. They've been coming to us and saying, we're not seeing enough co-invest. We're not getting enough deal flow. Can you show us more fund opportunities that then we can increase the diversification in our portfolios? So, I think there's a limitation to it. But we expect it to continue to happen. We expect that more investors will in-house some capabilities and be able to behave almost like a manager themselves.
Tom Quinn
Right. And that's not necessarily what we would think of when we think of secondaries, but it's a little bit on that road. And secondaries are a massively growing practice. So, one of the areas that we are really interested in understanding is as the capital growth happens in secondaries, one of the things that happened as you had too much dry powder in the direct lending market was you saw the deterioration of terms.
Jeffrey Griffiths
Yes.
Tom Quinn
When you go out to institutional LPs and you say, okay, these secondary markets are really where we should be allocating capital. Is there a concern that if there's an over-allocation and there's too much dry powder there that you could see the erosion of terms like a similar pattern that we saw in direct lending?
Jeffrey Griffiths
Well, yes. Yes. I think there is what we saw in direct lending arguably, and I don't necessarily disagree with you, that when you have this influx of retail, I call it hot money coming in, that then money needs to be deployed quickly. And then it could often be deployed in unattractive deals. And that's never good. I think that's just fundamental supply and demand of any market.
In secondaries, I think that essentially what you have, when we think of secondaries, and I think it's probably the part that I think is really interesting right now is the structural need for direct lending funds. Most direct lending funds are housed in end-of-life drawdown vehicles. And by that, I mean GP-LP structures that have a six, seven, eight year, usually nine, 10 year life. And there's an end, and they have to come to an end. Usually, there's a point in time where towards the end, they have to keep extending the fund because there's assets in the fund that need to be moved. They don't want to sell the assets because they would have to sell them at a discount. Their illiquid assets are not meant to be sold.
So basically, what you also see in direct lending funds that are drawdown structures is a decay in the IRR. When you move out of the investment period, you generally start to see the IRRs start to deteriorate because you're sitting on a melting ice cube. You have these loans. You have no control over when they pay off. Some may pay off early, later.
And so there actually is a technology in the secondary market where we take those tail end portfolios, or not necessarily tail end, but year six, seven, eight, and move them to a new vehicle, bring in a little bit of fresh capital, add some new loans, put a little bit of recycling in it, and you now have a better pool of capital to manage going forward.
That is the interesting structural, I think that's going to be a constant structural element in the private credit market, and that is where there is the most activity happening right now in private credit secondaries. Some people may call them continuation vehicles. That's essentially what they are. They're a bit different to the private equity CV world. These are multi-asset CVs in credit, and they're primarily being done because of the mismatch between the end of life in the fund vehicle and the assets themselves.
And for those deals to work, the three constituents need to be fairly treated, right? The existing investors in the fund that are given the option to get their money back, the manager, and the new investors buying in and recapitalizing the fund. And if all three of those constituencies are happy and pleased, then these deals, and they have been happening, these deals are going to be a big place to deploy capital.
And then finally, what I would say is back to your point on concerns, there are concerns, and there would be, as well, if direct lending funds are seeing a deterioration in their portfolios or assets, the secondary market is just buying the same thing. They're just buying that. They might be buying it at a slight discount, but they're essentially buying the same exposure. So those concerns would be present in the secondary market as well in terms of asset quality and discipline of deployment of capital. Those concerns, the same concerns, would also be applicable in the secondary market.
Tom Quinn
Right. So it sounds like there's almost two different types of secondary markets that are evolving. There's one which is a little bit more distressed, but then the one that we're talking about is the performing credit market, which says, if you're six, seven years into your vintage, you maybe have a 70%, 80% DPI at that point to your investors. You just want to exit, and you can get them maybe not all the way up to where they were going to be, but high enough up that they don't particularly care. They can redeploy that capital.
Jeffrey Griffiths
That's exactly right.
Tom Quinn
And then you add a few new loans to the continuation vehicle to get some returns, and this is what you're talking about.
Jeffrey Griffiths
Yeah. So an institution's been in a fund for seven years. They've gotten a good return. The option for them is, okay, I can cash out now, get everything back, redeploy that in something else. That's attractive. You've been in something for seven years. That's quite a long time.
And if you're just given the option to get everything back, a lot of investors in this market will take that option at the right price. And then as a new investor, you're basically buying into a seeded portfolio, throwing off cash flows right away. You can see the assets. You can diligence them. You can price them. And so that's also attractive.
And that's the secondary funds that are raising capital, primarily on that thesis of you as LP invest in my secondaries fund. I'm going to give you fast deployment, direct access to cash flows, diversified portfolios, shorter duration strategy, perhaps slightly higher IRR, because IRR is just a timing of cash flows measurement. Slightly higher IRR, but on a total return basis. So the actual total return of the MOIC, it might not be as attractive as if you're in a blind pool.
So that's essentially the arbitrage that's happening. It's really a timing, it's a liquidity arbitrage, really. But those deals aren't going to happen if buyers and sellers aren't close on pricing. And that is right now single digit discounts to NAV. If those discounts to NAV were anything more than that, then I think the option of the sellers is not attractive. And they may decide to just stick with the assets because selling out at anything more than several points of a discount may not be attractive to them.
Tom Quinn
Right. And so there are solutions to that, though. Right. So if your sellers say that, OK, we don't want to take a big discount on this NAV, the buyers can say, OK, we will take it at wherever you want to sell in 95, 96.
But the manager is going to have to make some concessions. And the ones that we've seen are there's types of deferred payments. There's manager subordination of their own carry that they have to roll. How important are those that those kind of features that managers can throw in at the end to try and bridge that gap?
Jeffrey Griffiths
They are important in a market where the pricing is softer or in a market where you could argue today where the bid ask spread is a bit wider. Then, yes. Managers that are managers that are trying to get CVs done are going to have to agree certain terms that may be less favorable to them. And deferred payments and subordination of carry are some ways for them to do that.
But there are times where they just may not agree to that and the deal may just may not happen because these deals don't have to happen. You could actually just have a melting ice cube and keep extending the fund. That's an option. But it's not usually optimal solution when there is a healthier credit market and you can agree on on price. So I expect those those features will will be commonly used and they are being commonly used, but not in all markets.
Tom Quinn
Right. And the other thing is that it sounds like this what this conversation is kind of providing is this seems like it is a little bit of a structural shift, right? There's a there's a question that says if we are six years, seven years outside of a 2020 vintage, a very active vintage that needs a lot of liquidity at this moment, that it could be a response, right? To that specific situation. But what you're describing is no like as you get to the end of any credit fund. No matter what, this could be a potential solution.
Jeffrey Griffiths
Yes. That's right. So I don't think it is vintage-specific. It is a purely structural, you have a fund with a nine, 10-year life. It comes to an end. So there is a vintage effect in that it's somewhat of vintage effect in that when you're in a rising rate environment like we have been in the last several years where you created a vintage at very low rates and then that vintage is seasoned into higher rate.
That definitely creates a longer duration situation or a situation where private equity funds aren't selling assets because cost of capital is too high. And therefore, then that means that private credit funds are sitting on assets much longer than they normally would. And so then, yes, you have a problem. You need to move those assets. You can't sell them from the fund. You don't want to sell them into the into the direct market. You need to move them in an organized, diversified way into a new vehicle.
So there is there is a vintage effect to it, I think, probably primarily driven by interest rates. And the fact that in this current situation and the vintages that were originated through COVID, they originated at very low rates. Rates went up to 5%. They're still relatively high. And PE firms haven't been selling the businesses because the valuations and financing markets have not been as attractive for them to be able to sell those assets.
So the duration trade, the duration play in private markets has been much longer. But in a zero rate market, you might not see a lot of CVs like this because the portfolio is going to be just naturally liquidated really quickly through repayments, early repayments.
Tom Quinn
Right. And so one of the other things that we've looked at is the attempt at sale of individual loans. So not necessarily going to a CV, but instead creating what we would normally think of as a secondary market as people who work with broadly syndicated leveraged loans as well.
Jeffrey Griffiths
Yeah.
Tom Quinn
In that you can go to a bank like a JPM and say, I want to reduce exposure. Maybe it's $100 million of exposure to a certain credit. That also doesn't seem to have the same momentum. There's a lot of interest, but there doesn't seem to be a lot of trading. Is that accurate for what you've seen as well?
Jeffrey Griffiths
Yeah. Definitely, I mean, again, this is a difference between private and public markets. Private markets are meant to be bought, held to maturity, not meant to be sold in a secondary market on a single asset basis, particularly in credit to try to sell single assets. It's very difficult.
To try to sell a multi-asset diversified portfolio is easier because the buyer is getting the benefit of diversification. But no, we're not seeing and I don't expect to see a lot of single asset private loan sales, although there are some clean up trades happening with some of the regulated vehicles like the BDCs that have certain restrictions on how many types of assets they can hold. Or I think I don't expect to see BDCs that are heavy and software to be selling software loans.
I just expect them to just not be doing any more software. and diluting their existing software exposure down by doing more of other things. So as this market deepens in matures, there's definitely going to be more single asset trades or small portfolio cleanup trades, but I don't expect it to become a big trend. What I expect to be the big trend and what I think is already happening is the multi-asset CV trend out of direct lending funds.
That has happened big time, many managers have done it, expect more to happen. It's a structural, it's purely a structural necessity.
Tom Quinn
And then the last topic is just manager selection, which managers are doing well right now, right? We're hearing that some are marketing themselves as having, and again, this isn't exactly relevant to private credit, but we're hearing that some funds are saying we avoided First Brands. We're hearing others that are saying we're not exposed to software. What is the winning strategy? How does a manager win over LPs right now? Has it changed at all in the past year?
Jeffrey Griffiths
It's something we spend a lot of time, as you would imagine. An enormous amount of time focusing on. I think definitely what any volatility does is it just helps you reevaluate quality, reevaluate incentives. I think it's really important incentives. So at the end of the day, credit investors want predictability, low volatility, cashflow, and returns within a narrow band, relatively narrow band. They're not looking to shoot the lights out. And they certainly don't want, you know, returns to look like public markets because otherwise they would have just invested in public markets, which would be easier and they would have the liquidity.
So I think performance is very important, but performance and private credit is sometimes hard to measure, especially early in the funds life. If you're an investor and a manager shows up and says, Oh, my latest fund vintage, which is two years old is a 12% net IRR. What does that really mean? It doesn't really mean much. It just means that they've invested in a portfolio. They're marking it at something and it's throwing off the cash flows that it expected to throw off.
What you really need to look at is what, what was the IRR in year eight, nine, and 10, because again, these are back-ended sub-investment grade exposures. A lot of the risk is tail end risk, especially with the problem companies. And a lot of the value proposition is how do you deal with problems and how do you work out problems in the back end? And so I think that there's been a lot of complacency in direct lending of people just thinking, well, it's easy, it's commoditized, it's beta exposure. I can replicate it. No, actually, I don't think that's true.
I think that there's a lot of mistakes that can be made. It's risky lending and incentivization, particularly backend incentivization, I think is the best way for investors to align their interests with managers. And by that, I mean, retaining some element of incentive fees, backend and carry and, and GP alignment. So making sure the manager is tied in personally to the funds and personally to the success in the backend. That's really important.
What you don't want to see necessarily is just rapid fundraising, rapid deployment and rinse, repeat, rinse, repeat. That's where I think mistakes will be made and perhaps are being made. You really want to go back to basics. These are private markets, long-term markets. Work with managers that are aligned with you for the long run, that have the proper incentive structures for them personally. They personally invested in their funds. They have their carry heavily in the funds and their back-ended incentivized.
I think that's what I like to see. And what we focus on when we work with clients. And I think investors should go back to basics on that manager selection point.
Tom Quinn
Right. And the one incentive that we think is really interesting is looking at public managers. So if your fees are based on called capital and you need to deploy capital and you're a public manager who has to report your earnings every quarter, there could be that incentive issue. Does that come up at all in your practice?
Tom Quinn
It does. I think, listen, I think there are all types of managers and being publicly listed or not publicly listed is not necessarily at all a determinant of quality of performance. At the end of the day, if an asset manager is not producing good returns, that's going to hurt them regardless of whether publicly listed or private.
But, yeah, I think if a manager is incentivized just to raise money because they want to boost their AUM and show that next quarterly earnings report, that's not necessarily a good reason why you would want it. Like you'd want to make sure that that's not happening too much. You'd want to, as an investor, invest again with groups that are in it for the long run, not for the quarterly earnings report, that are building long-term businesses or that are part of bigger asset management institutions where long-term value creation for their LPs and clients is of utmost importance and then have the reputation of delivering for, for their LPs.
But I would fully admit that manager selection in this market is really hard. It's really hard for investors to figure it out, get it right, decipher what the incentives are and judge what the right partners would be. Especially in a market like this, where there's just an enormous amount of consolidation. It's hard to think of many private credit managers of scale that are independent. There aren't that many.
It's been a big growth area. That growth is slowing, I think a bit. So perhaps the M&A maybe tempered a bit. But it's hard for manager selection. It's hard to find that perfect manager. That's independent founder partner run where the, the teams are heavily invested and you know, they're going to be there in year 10. It's not easy to find that anymore. It's hard.
Tom Quinn
Right. We'll keep in touch as you work with LPs to try and find that answer. Thank you very much for, for joining Cloud 9fin. We really appreciate having you on.
Jeffrey Griffiths
Yeah. Thank you, Tom. I really appreciate it. Great discussion. Thank you.
Tom Quinn
Thanks.