“Apologies to the private credit funds … but we find that if you have leverage from a private credit fund, they will tend to be a bit more aggressive if something goes wrong,” said Claire Smith, head of business development for Schroders Capital’s private markets business in Australia, at the Australian Wealth Management Summit on Friday.
“That’s great if you’re invested in that private credit fund, you want your manager to take over the keys and extract every dollar back. But from an equity perspective, that’s not great, because you might be left with a company that has not been worked out in the most efficient way.”
Smith said smaller to mid-cap companies – Schroders’ preferred hunting ground – are more likely to be financed by domestic banks, which take a more accommodating approach.
“CBA doesn’t want to take over your small-cap company and run it. They’re much more likely to give you an interest holiday, extend terms, refinance. That’s a lot more helpful from an equity perspective,” she said.
Technology and healthcare dominate
Currently, both Schroders and JP Morgan Asset Management’s private equity group are leaning into sectors they believe can withstand economic shocks.
“About 30 per cent of our portfolio is in tech and software,” said Ashmi Mehrotra, global co-head of JP Morgan Asset Management’s Private Equity Group, in Sydney on Friday. “It’s very difficult to rip out the software we use every day. It’s a durable, recurring revenue business model.”
Healthcare, particularly services, is the second-largest allocation.
“There’s no tariff exposure. Can services slow down in a macro recession, yes, but usually that takes a little bit of time,” Mehrotra said. Industrials and business services also feature in the mix.
Schroders is similarly positioned.
“We like a lot of technology, software as a service, mission critical. Technology is great. It’s inflation resilient,” Smith said, adding that essential healthcare also features heavily in Schroders’ portfolio, including drug-related companies.
“We’ve got a company that does testing of new drugs going to market so that as well, that’s not correlated to the economic cycle. As we know, people are living longer. We’ve got ageing population. So, if for that reason as well, we really like healthcare,” she said.
On consumer exposure, Schroders takes a split view: staples in developed markets, but a more cyclical approach in Asia, where demographics look very different.
“Western world will only do staples. We believe with that, when you look at the demographic trends of an ageing population, we don’t see structural demand for consumer. But then within Asia, you’ve got a very different demographic viewpoint there. So, we will do things like cyclical consumer in Asia,” Smith elaborated.
While sector preferences converge, the two managers diverge sharply on geography.
JP Morgan remains heavily weighted to the US, with 70 to 75 per cent of its private equity investments there, and the balance in Western Europe.
“That’s been the same for about 45 years,” Mehrotra said, noting Europe can at times offer pricing arbitrage.
The firm avoids much of Asia, citing more volatile exit markets in China and India.
Schroders, headquartered in Europe, tilts the other way.
Smith said the fragmented European market provides more inefficiencies to exploit.
“We quite like how fragmented the European market is,” she said. “Prices are often a little bit cheaper than the US on average. Our claim to fame is our team speak every European language except Hungarian and Finnish. So, you might not see a big allocation to Hungary in the fund, but you’ll see nearly all other regions.
“It’s amazing if you call someone and speak to them in their mother tongue. So, you call someone in Italy and speak to them in Italian, how much more honest and real feedback you get than if you force them to speak English,” she said.
The firm still invests in the US but also carves out a “small flavour” of Asia – about 10 per cent of its portfolio across China and India.
Smith said those investments are built on “local-to-local” models, such as Chinese consumer businesses serving domestic demand.
Things like “pop art dolls” underpin production for domestic consumption in China, and “we like that as a diversifier to the Western world”, she said, adding that companies such as Pop Mart – maker of the global phenomenon Labubu dolls – are common in China.
Back to fundamentals
For Schroders, the debate over private credit financing only reinforces its long-standing focus on resilience.
“You want companies that aren’t over-leveraged. You want companies where if something does go wrong for a transitory period, your leverage provider is going to be a bit more helpful,” Smith said.
JP Morgan, too, is looking for firms “that are small and want to remain small” in spite of their success and has an extensive due diligence process.
“That, by the way, is a laborious process. It is feet on the ground sourcing, learning about those managers and those companies over a longer period of time,” Mehrotra said.
“We’re looking for proven investors that are remaining small and where we can be a strategic LP, a strategic investor, but we’re going to take our time on diligence. If you know private equity, know that the primary funds that we invest in, they’re like 10 to 12-year terms, so you’re with them for at least that long.”
