As low or negative rates bite, family offices invest more and more in private debt.

Wealthy individuals and family offices are lending money where banks fear to tread. Gone are the days when high net worth investors could rely on traditional investments to preserve the value of their nest egg for their families and descendants. Enter: private debt.

Central banks have emasculated the ability of bonds to provide security and return to their portfolios. In these days of negative interest rates, maybe bonds are only for the gullible, or overly afraid. Where should the wealthy go? The answer is private debt – the much riskier but much more profitable alternative.

Private debt opportunities

Think direct loans to far-flung oil exploration projects, luxury real estate projects, private equity-backed businesses, and cash-intensive tech startups.

Super-wealthy like the former Los Angeles Dodgers owner Frank McCourt Jr., the Pritzker family, which owns the Hyatt hotel chain, and the Bill & Melinda Gates Foundation Trust have reportedly invested in private debt.

They may invest through funds, or utilize the services of entities such as Stockholm-based Proventus Capital. Proventus was spun off from the family office of Swedish financier Robert Weil and invests in the market on behalf of institutions and individual clients.

There is a sharp uptrend in the global quantum of private debt, as it steps in to fill the breach created by banks. Banks have become highly risk-conscious since the financial crisis, and are wary of lending to smaller or new companies.

According to Preqin, a provider of alternative assets data, the private credit market has ballooned to $ 787.4 billion from a mere $ 42.4 billion in 2000.

Risks

The lucrative opportunities in this sector of alternative investments have not gone unnoticed. The field has become increasingly competitive with even institutions such as pension funds eyeing areas for deployment. As a result, returns have fallen.

Competition is particularly tough in the middle market lending – which comprise loans of $ 50 million or more.

According to one property focus private lending company, returns have halved from double-digit opportunities four years ago.

Liquidity is a very significant risk and the basic reason for the higher rates. Private debt is hard to realize when markets are in crisis mode, particularly so in a closed-ended fund. In these funds, investors are unable to withdraw their money until the underlying assets held by the funds mature.

However, falling returns, tough competition, or an impending global crisis have all failed to blunt investors’ appetite for private debt.

[Related Story: Canadian Pensions Home in on Lucrative Indian Private Debt  ]