According to Invesco’s Global Sovereign Asset Management Study 2024, sovereign wealth funds (SWF) are increasingly taking note of a new lending environment that has seen banks cede territory, opening up a gap in the market for alternative lenders.
The report, which gathered insights from 140 senior investment professionals representing 83 sovereign wealth funds, pointed out a “significant shift” in the lending landscape driven by increased capital requirements and stricter regulations on banks post-GFC.
With this new opportunity emerging, over half (56 per cent) of SWFs are seeking exposure to private credit via funds and around 30 per cent are engaging directly or via co-investments.
“As traditional lending channels remain constrained, the role of private credit in SWF investment strategies looks set to grow, with two-thirds of SWFs planning to increase their allocations to private credit in the coming year,” the report stated.
It noted varying sources of these additional allocations, with SWFs primarily reallocating capital from fixed income (34 per cent), public equities (26 per cent), and private equity (24 per cent).
Geographically, much of the focus remains on opportunities in the US and Europe, although the study highlighted growing recognition of other markets like India.
Among the top sectors in focus within private credit were infrastructure debt (51 per cent), real estate debt (50 per cent), and corporate direct lending (29 per cent).
The attractiveness of these sectors, according to the study, “reflects their potential for stable, long-term cash flows, and the opportunity to capitalise on the growing demand for infrastructure and real estate finance globally”.
Unpacking the appeal of private credit, SWFs noted its diversification potential (63 per cent) alongside the relative value of private credit compared with conventional debt (53 per cent). Other “significant draw cards” were high income components (49 per cent) and the ability to influence deal structures and protections (37 per cent).
“The strong performance of private credit investments has further fuelled interest in the asset class,” the study explained, adding that over a third of SWFs with investments in private credit report that returns “exceeded their expectations”.
Just 5 per cent described the returns as worse than expected.
Internal v external managers
In looking at the competitive alternative lending landscape, SWFs also noted a number of challenges. Among their top concerns were finding high-quality opportunities (78 per cent), aligning interests with partners (47 per cent), and valuation and pricing (44 per cent).
In response, the study noted, many SWFs are building out internal private credit teams with specialised capabilities and expertise.
“They are also focusing on identifying top-performing funds and positioning themselves strategically to gain access to attractive co-investment opportunities,” it said.
“SWFs are also leveraging their unique strengths to gain a competitive edge in the private credit market. For example, their long-term investment horizons allow them to be patient and selective in their deal sourcing, focusing on opportunities that align with their strategic objectives and risk tolerance.
“Additionally, many SWFs are forming strategic partnerships with leading private credit managers, using their scale and influence to secure favourable terms and access to exclusive deal flow.”
Larger funds with over $100 billion in assets under management were most likely to rely on a combination of internal and external resources.
Notably, the decision to use external managers or build internal teams both involved a range of factors, including cost, control, and access to expertise.
While external managers can provide a broad network of industry contacts, exposure to high-quality deals, and help mitigate some of the risks associated with direct investing, they can also have higher fees, and could mean a potential loss of control over investment decisions for the SWF.
“As SWFs become more experienced and sophisticated in their approach to private credit, many are looking to build their own internal teams to gain more direct control over their private credit investments and to reduce costs,” the study said.
