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Australian superfunds driving growth in private debt

At the end of 2021, Ernst and Young in an annual paper exploring the private debt market in Australia estimated its size to be AU$133 billion and growing…



At the end of 2021, Ernst and Young in an annual paper exploring the private debt market in Australia estimated its size to be AU$133 billion and growing 21 per cent year on year.[1] Whilst at a record size for Australia, it remains vastly immature when compared globally where the private debt market is estimated to be as large as US$1.2 trillion which has grown by 13.5 per cent annually over the last decade.[2]

While there is some way to go for Australian private debt as an alternative asset class, 2022 was a year which saw the largest Australian superfunds really take notice of the attractive risk-adjusted returns on offer. In this article, I will explore the reasons behind and scale of the rapid growth in private debt exposures by the Australian superfunds throughout last calendar year.

Why are Australian superfunds investing in private debt?

The answer is a very simple one, demand. Post the GFC, global banks had increased capital requirements placed on them under the “BASEL III” regulatory standards with the aim of making them and the sector more resilient to any future market crises. In short, banks had to reduce the amount of leverage on their balance sheets, which was achieved by scaling back their lending. This constraint on bank lending has created a significant structural opportunity for non-bank lenders in Australia to fill this funding void. While there are now over 600 non-bank providers in Australia, they still only account for seven per cent of total debt financing.[3] One prominent non-bank lender, Judo Bank, estimated the funding gap for Australian SMEs seeking capital to be AU$120 billion and widening.[4]

This opportunity for non-bank lenders will only grow stronger in the coming years as two key pieces of pandemic stimulus, the RBA’s “Term Funding Facility” (TFF) and Federal Government Coronavirus SME Guarantee scheme draw to their conclusion. You can read more on this subject in a recent post: A $9 billion Opportunity for Non-bank SME Lenders. In short, the twin stimulus packages provided banks access to ultra-low funding (fixed at just 0.10 per cent for three years) and saw the Federal Government serve as 50 per cent guarantor on eligible SME loans. These attractive conditions enabled the banks to write AU$9 billion worth of SME loans throughout the pandemic. The conclusion of these stimulus benefits between now and June 2024 significantly changes the economics and relative attractiveness of SME lending for the banks and will impact their appetite to fund new SME lending. As the banks step-back, the non-bank lenders stand poised to capitalise and provide funding to the steady wave of bank-quality SME borrowers seeking alternate financing.

The very evident demand for alternate sources of financing and the lack of providers in Australia has led to a solid yield premia being able to be generated in accessing private debt markets in Australia. This certainly has been the experience for Brett Craig’s Aura Private Debt team, whose flagship offering the Aura High Yield SME Fund has outperformed the S&P Australia High Yield Corporate Bond Index since its inception in August 2017 as captured in the chart below.[5] In a year which saw both equities and bonds record a negative annual return for only the third time in almost 100 years, the diversification benefits of an allocation to private debt is an outcome the Australian superfunds have sought out. Further to this, the majority of private debt is written at floating rates, offering investors a rare hedge against movements in the underlying cash rate. This is obviously a very attractive outcome in today’s uncertain rate environment.

Aura High Yield SME Fund return

Source: Aura, December 2022.  Past performance is not a reliable indicator of future performance.
The Fund is available to wholesale clients only.

What do the Australian superfunds have invested in private debt?

According to Bloomberg, Australian superfunds have less than one per cent of their portfolios on average invested in private debt.[6] This is again in stark contrast to the US, where many pension funds are for the most, full in their allocations to private debt domestically. Consequently, there is plenty of room for this allocation to grow here in Australia. The extent of which was apparent in 2022. Although many of the larger superfunds in Australia, namely UniSuper, Colonial First State, REST, HESTA and CBUS do not disclose their underlying allocation to private debt, Australian Super, the largest in the land, does. As at 30 June 2022, their allocation to private debt in their “Balanced” fund was 3.2 per cent, or close to AU$5.5 billion.[7] They are in the process of tripling their exposure to north of AU$15 billion by the end of next year.[8] Another large player, Australian Retirement Trust, are quoted to have an exposure closer to 5 per cent as at last year end.[9] Similarly, HostPlus has tripled their exposure in private debt in the last couple of years which was 1.6 per cent in their “Balanced” fund as at 30 June 2022.[10] Many of these superfunds have in-house specialist credit teams who do their own private debt deals. Outside of this, they gain exposure through a unitised fund structure, particularly for offshore allocations.

Is it too good to be true?

Whilst private debt boasts promising risk-adjusted returns and diversification benefits, like any form of investing it does not come without the age-old risk versus return trade off. Although the return premium above public markets is an attractive feature in private debt, this is partly due to the illiquidity of the asset class when compared to public markets. In the case of unitised funds, most private debt investments are not priced daily as the underlying assets are re-priced infrequently. Similarly, while floating rates are an attractive element of private debt, the end borrowers still need to be able to service the loans particularly in light of a challenged global economic picture. As such, the key as always lies in risk management. Namely, the ability to identify high quality lending candidates, embed better lending protection through covenants or warehousing, and build out a diversified loan pool especially in lieu of private debt not being covered by ratings agencies. This diversification is sought at the sector level, specifically for SME lending, or in terms of the duration of the loans themselves.

Other points of contention for retail investors are both limited access to and inherent complexity of private debit opportunities. Whilst the larger Australian superfunds have the luxury of scale and the ability to co-lend very large sums of money (north of AU$100 million), the average SMSF in Australia does not. They also don’t have the benefit of the very large specialist debt teams who understand and specialise in the asset class, and can source exposure directly. The good news here is the growth of the private debt asset class also entails growth in the number of investment solutions coming to the retail market, such as the Aura Core Income Fund which we launched in partnership with the Aura Private Debt team late last year. Regardless of your opinion on private debt one thing is for certain, you will be hearing more and more about the asset class going forward. In fact, Preqin Global estimates private debt will grow to be as large as US$2.7 trillion globally by 2026.[11] Watch this space!

If you would like to learn more about the Aura Core Income Fund, please visit the fund’s web page to learn more:  Aura Core Income Fund

If you would like to learn more about the Aura High Yield SME Fund (wholesale clients only), please visit the fund’s web page to learn more: Aura High Yield SME Fund

You should read the relevant Product Disclosure Statement (PDS) or Information Memorandum (IM) before deciding to acquire any investment products.

Past performance is not an indicator of future performance. Returns are not guaranteed and so the value of an investment may rise or fall.

[1] Source: Ernest & Young, March 2022

[2] Source: Preqin Global, January 2022

[3] Austrac, 2021

[4] Judo Bank, September 2021

[5] Fund inception date 1 August 2017. Returns calculated to 31 December 2022 with all returns calculated net of fees and expenses. Benchmark is RBA Cash Rate +5%. Past performance is not a reliable indicator of future performance. Returns and distributions are not guaranteed.

[6] Bloomberg, December 2022

[7] Australian Super, June 2022

[8] Bloomberg, December 2022

[9] As above

[10] Hostplus, June 2022

[11] Source: Preqin Global, October 2022 & Preqin Global, January 2022 

This information is provided by Montgomery Investment Management Pty Ltd (ACN 139 161 701 | AFSL 354564) (Montgomery) as authorised distributor of the Aura Core Income Fund (ARSN 658 462 652) (Fund). As authorised distributor, Montgomery is entitled to earn distribution fees paid by the investment manager and, subject to certain conditions being met, may be issued equity in the investment manager or entities associated with the investment manager.

The Aura Core Income Fund (ARSN 658 462 652)(Fund) is issued by One Managed Investment Funds Limited (ACN 117 400 987 | AFSL 297042) (OMIFL) as responsible entity for the Fund. Aura Credit Holdings Pty Ltd (ACN 656 261 200) (ACH) is the investment manager of the Fund and operates as a Corporate Authorised Representative (CAR 1297296) of Aura Capital Pty Ltd (ACN 143 700 887 | AFSL 366230). 

You should obtain and carefully consider the Product Disclosure Statement (PDS) and Target Market Determination (TMD) for the Aura Core Income Fund before making any decision about whether to acquire or continue to hold an interest in the Fund. Applications for units in the Fund can only be made through a valid paper or online application form accompanying the PDS. The PDS, TMD, continuous disclosure notices and relevant application form may be obtained from or from Montgomery.

The Aura High Yield SME Fund is an unregistered managed investment scheme for wholesale clients only and is issued under an Information Memorandum by Aura Funds Management Pty Ltd (ABN 96 607 158 814, Authorised Representative No. 1233893 of Aura Capital Pty Ltd AFSL No. 366 230, ABN 48 143 700 887).

Any financial product advice given is of a general nature only. The information has been provided without taking into account the investment objectives, financial situation or needs of any particular investor. Therefore, before acting on the information contained in this report you should seek professional advice and consider whether the information is appropriate in light of your objectives, financial situation and needs.  

Montgomery, ACH and OMIFL do not guarantee the performance of the Fund, the repayment of any capital or any rate of return. Investing in any financial product is subject to investment risk including possible loss. Past performance is not a reliable indicator of future performance. Information in this report may be based on information provided by third parties that may not have been verified.

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Lower mortgage rates fueling existing home sales

To understand why we had such a beat in sales, you only need to go back to Nov. 9, when mortgage rates started to fall from 7.37% to 5.99%.



Existing home sales had a huge beat of estimates on Tuesday. This wasn’t shocking for people who follow how I track housing data. To understand why we had such a beat in sales, you only need to go back to Nov. 9, when mortgage rates started to fall from 7.37% to 5.99%.

During November, December and January, purchase application data trended positive, meaning we had many weeks of better-looking data. The weekly growth in purchase application data during those months stabilized housing sales to a historically low level.

For many years I have talked about how rare it is that existing home sales trend below 4 million. That is why the historic collapse in demand in 2022 was one for the record books. We understood why sales collapsed during COVID-19. However, that was primarily due to behavior changes, which meant sales were poised to return higher once behavior returned to normal.

In 2022, it was all about affordability as mortgage rates had a historical rise. Many people just didn’t want to sell their homes and move with a much higher total cost for housing, while first-time homebuyers had to deal with affordability issues.

Even though mortgage rates were falling in November and December, positive purchase application data takes 30-90 days to hit the sales data. So, as sales collapsed from 6.5 million to 4 million in the monthly sales data, it set a low bar for sales to grow. This is something I talked about yesterday on CNBC, to take this home sale in context to what happened before it. 

Because housing data and all economics are so violent lately, we created the weekly Housing Market Tracker, which is designed to look forward, not backward.

From NAR: Total existing-home sales – completed transactions that include single-family homes, townhomes, condominiums and co-ops – vaulted 14.5% from January to a seasonally adjusted annual rate of 4.58 million in February. Year-over-year, sales fell 22.6% (down from 5.92 million in February 2022).

As we can see in the chart above, the bounce is very noticeable, but this is different than the COVID-19 lows and massive rebound in sales. Mortgage rates spiked from 5.99% to 7.10% this year, and that produced one month of negative forward-looking purchase application data, which takes about 30-90 days to hit the sales data.

So this report is too old and slow, but if you follow the tracker, you’re not slow. This is the wild housing action I have talked about for some time and why the Housing Market Tracker becomes helpful in understanding this data.

The last two weeks have had positive purchase application data as mortgage rates fell from 7.10% down to 6.55%; tomorrow, we will see if we can make a third positive week. One thing to remember about purchase application data since Nov. 9, 2022 is that it’s had a lot more positive data than harmful data. 

However, the one-month decline in purchase application data did bring us back to levels last seen in 1995 recently. So, the bar is so low we can trip over.

One of the reasons I took off the savagely unhealthy housing market label was that the days on the market are now above 30 days. I am not endorsing, nor will I ever, a housing market that has days on the market at teenager levels. A teenager level means one of two bad things are happening:

1. We have a massive credit boom in housing which will blow up in time because demand is booming, similar to the run-up in the housing bubble years.

2. We simply don’t have enough products for homebuyers, creating forced bidding in a low-inventory environment. 

Guess which one we had post 2020? Look at the purchase application data above — we never had a credit boom. Look at the Inventory data below. Even with the collapse in home sales and the first real rebound, total active listings are still below 1 million.

From NAR: Total housing inventory registered at the end of February was 980,000 units, identical to January & up 15.3% from one year ago (850,000). Unsold inventory sits at a 2.6-month supply at the current sales pace, down 10.3% from January but up from 1.7 months in February ’22. #NAREHS

However, with that said, the one data line that I love, love, love, the days on the market, is over 30 days again, and no longer a teenager like last year, when the housing market was savagely unhealthy.

From NAR: First-time buyers were responsible for 27% of sales in January; Individual investors purchased 18% of homes; All-cash sales accounted for 28% of transactions; Distressed sales represented 2% of sales; Properties typically remained on the market for 34 days.

Today’s existing home sales report was good: we saw a bounce in sales, as to be expected, and the days on the market are still over 30 days. When the Federal Reserve talks about a housing reset, they’re saying they did not like the bidding wars they saw last year, so the fact that price growth looks nothing like it was a year ago is a good thing.

Also, the days on market are on a level they might feel more comfortable in. And, in this report, we saw no signs of forced selling. I’ve always believed we would never see the forced selling we saw from 2005-2008, which was the worst part of the housing bubble crash years. The Federal Reserve also believes this to be the case because of the better credit standards we have in place since 2010. 

Case in point, the MBA‘s recent forbearance data shows that instead of forbearance skyrocketing higher, it’s collapsed. Remember, if you see a forbearance crash bro, hug them, they need it.

Today’s existing home sales report is backward looking as purchase application data did take a hit this year when mortgage rates spiked up to 7.10%. We all can agree now that even with a massive collapse in sales, the inventory data didn’t explode higher like many have predicted for over a decade now.

I have stressed that to understand the housing market, you need to understand how credit channels work post-2010. The 2005 bankruptcy reform laws and 2010 QM laws changed the landscape for housing economics in a way that even today I don’t believe people understand.

However, the housing market took its biggest shot ever in terms of affordability in 2022 and so far in 2023, and the American homeowner didn’t panic once. Even though this data is old, it shows the solid footing homeowners in America have, and how badly wrong the extremely bearish people in this country were about the state of the financial condition of the American homeowner.

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SVB contagion: Australia purportedly asks banks to report on crypto

Australia’s prudential regulator has purportedly told banks to improve reporting on crypto assets and provide daily updates.



Australia’s prudential regulator has purportedly told banks to improve reporting on crypto assets and provide daily updates.

Australia’s prudential regulator has purportedly asked local banks to report on cryptocurrency transactions amid the ongoing contagion of Silicon Valley Bank’s (SVB) collapse.

The Australian Prudential Regulation Authority (APRA) has started requesting banks to declare their exposures to startups and crypto-related companies, the Australian Financial Review reported on March 21.

The regulator has ordered banks to improve their reporting on crypto assets and provide daily updates to the APRA, the Financial Review notes, citing three people familiar with the matter. The agency is aiming to obtain more information and insight into banking exposures into crypto as well as associated risks, the sources said.

The new measures are apparently part of the APRA’s increased supervision of the banking sector in the aftermath of recent massive collapses in the global banking system. On March 19, UBS Group agreed to buy its ailing competitor Credit Suisse for $3.2 billion after the latter collapsed over the weekend. The takeover became one of the latest failures in the banking industry following the collapses of SVB and Silvergate.

Barrenjoey analyst Jonathan Mott reportedly told clients in a note that the situation “remains stable” for Australian banks but warned confidence could be quickly disrupted, putting pressure on bank margins.

Related: Silvergate, SBV collapse ‘definitely good’ for Bitcoin, Trezor exec says

“Our channel checks indicate deposits are not being withdrawn from smaller institutions in any size, and capital and liquidity buffers are strong,” Mott said, adding:

“But this is a crisis of confidence and credit spreads and cost of capital will continue to rise. At a minimum, this will add to the margin pressure the banks are facing, while credit quality will continue to deteriorate.”

The news comes soon after the Australian Banking Association launched a cost of living inquiry to study the impact of the COVID-19 pandemic and geopolitical tensions on Australians. The inquiry followed an analysis of the rising inflation suggesting that more than 186 banks in the United States are at risk of a similar shutdown if depositors decide to withdraw all funds.

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Delta Move Is Bad News For Southwest, United Airlines Passengers

Passengers won’t be happy about this, but there’s nothing they can do about it.



Passengers won't be happy about this, but there's nothing they can do about it.

Airfare prices move up and down based on two major things -- passenger demand and the cost of actually flying the plane. In recent months, with covid rules and mask mandates a thing of the past, demand has been very heavy.

Domestic air travel traffic for 2022 rose 10.9% compared to the prior year. The nation's air traffic in 2022 was at 79.6% of the full-year 2019 level. December 2022 domestic traffic was up 2.6% over the year-earlier period and was at 79.9% of December 2019 traffic, according to The International Air Transport Association (IATA).

“The industry left 2022 in far stronger shape than it entered, as most governments lifted COVID-19 travel restrictions during the year and people took advantage of the restoration of their freedom to travel. This momentum is expected to continue in the New Year,” said IATA Director General Willie Walsh.

And, while that's not a full recovery to 2019 levels, overall capacity has also not recovered. Total airline seats available actually sits "around 18% below the 2019 level," according to a report from industry analyst OAG.

So, basically, the drop in passengers equals the drop in capacity meaning that planes are flying full. That's one half of the equation that keeps airfare prices high and the second one looks bad for anyone planning to fly in the coming years.

Image source: Getty Images.

Airlines Face One Key Rising Cost

While airlines face some variable costs like fuel, they also must account for fixed costs when setting airfares. Personnel are a major piece of that and the pandemic has accelerated a pilot shortage. That has given the unions that represent pilots the upper hand when it comes to making deals with the airlines.

The first domino in that process fell when Delta Airlines (DAL) - Get Free Report pilots agreed to a contract in early March that gave them an immediate 18% increase with a total of a 34% raise over the four-year term of the deal.

"The Delta contract is now the industry standard, and we expect United to also offer their pilots a similar contract," investment analyst Helane Becker of Cowen wrote in a March 10 commentary, Travel Weekly reported.

US airfare prices have been climbing. They were 8.3% above pre-pandemic levels in February, according to Consumer Price Index, but they're actually below historical highs.

Southwest and United Airlines Pilots Are Next

Airlines have very little negotiating power when it comes to pilots. You can't fly a plane without pilots and the overall shortage of qualified people to fill those roles means that, within reason, United (UAL) - Get Free Report and Southwest Airlines  (LUV) - Get Free Report, both of which are negotiating new deals with their pilot unions, more or less have to equal (or improve on) the Delta deal.

The actual specifics don't matter much to consumers, but the takeaway is that the cost of hiring pilots is about to go up in a very meaningful way at both United and Southwest. That will create a situation where all major U.S. airlines have a higher cost basis going forward.

Lower fuel prices could offset that somewhat, but raises are not going to be unique to pilots. Southwest also has to make a deal with its flight attendants and, although they don't have the same leverage as the pilots, they have taken a hard line.   

The union, which represents Southwest’s 18,000 flight attendants, has been working without a contract for four years. It shared a statement on its Facebook page detailing its position Feb. 20.

"TWU Local 556 believes strongly in making this airline successful and is working to ensure this company we love isn’t run into the ground by leadership more concerned about shareholders than about workers and customers. Management’s methodology of choosing profits at the expense of the operation and its workforce has to change, because the flying public is also tired of the empty apologies that flight attendants have endured for years."

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