How private debt can help guard against rising inflation

The reality of higher inflation and interest rate hikes has prompted asset owners to review their current defensive fixed income allocations and assess the level of risk protection required in order to earn the investment returns needed to meet their targets. 

Income generated by traditional fixed income sources such as fixed rate bonds are now harder to find. Strategies across private markets, in particular private debt, may be well equipped to deal with the ongoing market volatility and changes to interest rates. In periods of higher inflation, private debt can offer investors a level of protection – being a floating rate asset class means the underlying yield increases as inflation and interest rates increase. Additionally, the long term, patient capital nature of private debt, and the ability to absorb and pass on rising costs mean these strategies can actually benefit from inflation.

It’s a defensive allocation that can help to preserve capital and provide genuine diversification and yield, whether through the right sub-sectors of private debt or the underlying assets well-positioned to flourish during an inflationary environment.

The Australian investable private debt universe is large, and we believe the most attractive sub-sectors include leveraged buyout and private company debt – in businesses with brand and customer strength operating in non-cyclical industries; private and public Asset Backed Securities such as floating rate quality mortgages; and loans to stabilised commercial real estate assets with annual contracted rent.

Revolution Asset Management believes the outlook for private debt remains positive. With a robust deal pipeline, deployment into 2022 is set to be strong. In private company and leverage buy-out loans, the M&A boom of 2021 drove three times the level of activity vs the prior year and 40% higher vs the five year average, and with international borders reopening, this is expected to fuel activity in 2022. In private Asset Backed Securities, warehouse funding is reaching A$10 billion and continues to offer very attractive relative value compared to public Asset Backed Securities. In the current market, we are witnessing significant growth particularly in non-bank lending activity in Australia and New Zealand, which continues to provide attractive opportunities for our portfolio and helps quality non-bank lenders realise their growth plans.