Pantheon sees substantial opportunity in credit secondaries as it closes latest vehicle

Pantheon exceeded its target for Pantheon Credit Opportunities Fund II, holding a $590 million final close on the vehicle this month.

With the fund substantially deployed, global head of private credit Rick Jain detailed to Secondaries Investor the “huge opportunity” the firm sees in the credit secondaries market.

PCO II closed above its $350 million target. Why were investors attracted to this particular strategy?

We are targeting credit secondary investments in high-quality seasoned portfolios, primarily in the US, targeting a mix of both senior secured assets, as well as opportunistic exposures including special situations, growth lending, speciality- and asset-backed finance.

Given the portfolio construction, we are focused on generating an opportunistic private credit return profile in contrast with a traditional direct lending strategy, while getting all the benefits of secondaries, which include attractive entry pricing, short asset durations, immediate yield and diversification across many different factors – company, GP, industry [and] vintage year.

In addition, investors recognised our leading market position in credit secondaries, our strong track record, credit expertise and partnership approach with GPs and LPs.

The credit team committed a record total for the firm of $1.7 billion to 27 secondaries transactions last year. How much of the fund has been deployed to date?

We manage multiple commingled funds and SMAs for our credit secondary clients. This total covers of entirety of our credit secondaries platform, and includes investments across all credit strategies, return profiles and deal types, including both LP- and GP-initiated transactions.

For PCO II specifically, we were substantially deployed before the final closing and the additional capital provides us with further resource to pursue more opportunities over the investment period.

The fund will primarily target positions in the US. Are there any additional geographies the vehicle will invest in? Does the vehicle have a percentage split for those geographies?

The vehicle has a global remit… Given the depth of market and current opportunity set, the fund will primarily target investments in the US, with a minority of investments in Europe. At the moment, the US makes up close to 80 percent of the portfolio, with the majority of the remainder in Europe.

You say the fund will focus on downside protection, targeting a mix of both senior strategies and assets, as well as opportunistic exposures. Could you break down those opportunities further? Are there any particular sweet spots that have emerged in the current market environment?

On a look-through basis, the portfolio primarily consists of performing and seasoned senior secured or asset-backed private credit, with attractive credit metrics and other defensive characteristics. The fund also has the ability to invest in portfolios comprised of junior debt and other investments that have the potential for additional upside through fees, warrants, preferred or common equity.

Today, we are seeing attractive opportunities across the risk spectrum, but we have a preference for senior secured risk, given where we are in the economic and credit cycle.

How much activity are you seeing in the LP-led credit space?

The current market is certainly motivating more existing investors to bring portfolios to market, so we are seeing a significant increase in dealflow in this part of the market.

Around 70 percent of our dealflow across private credit secondaries currently is coming from LPs with drivers including the denominator effect, but also more tactical factors such as change in team or strategy, regulatory pressure and other internal dynamics that are leading to more active portfolio management.

What transactions are you seeing emerging in the GP-led credit segment? Are there any particularly interesting innovations going on in that part of the market?

One area where we are seeing innovation is in continuation funds, which are now quite mainstream and have been a topic of debate in the private equity world, but until now, they haven’t seen much traction in the credit space. This positive trend is a function of asset duration lengthening, which is driving fund managers to seek creative solutions and liquidity mechanisms for their LPs…

Credit managers are… increasingly realising that the way they can grow their platform depends on the relationships they cultivate with new investors, including secondaries buyers, who create capacity to do new deals that are competitive and relevant. We have partnered with more than 20 different credit fund managers over the last five years, investing in excess of $1 billion in this channel.

In addition to continuation vehicles, our transactions have included strip sales, tender offers and innovative joint ventures.

Pantheon’s private credit secondaries business, which launched in 2018, has now raised approximately $3 billion in capital. How large do you anticipate this business will become?

I wouldn’t put a number on it, but we see a huge opportunity in this market as it continues to mature – and we feel well positioned as one of the first movers, having launched what we believe was the world’s first dedicated credit secondaries fund – and now with $3 billion in capital dedicated to the strategy.

In terms of pattern recognition and industry development, we were an early mover in private equity secondaries, as well as in infrastructure as a new sub-segment of secondaries in 2009 – and our infrastructure platform has now grown to more than $20 billion. We believe the drivers of the market in credit are in many ways similar as in infrastructure, so believe there is still ample scope for the market and Pantheon to grow in credit secondaries.

The firm also saw private credit secondaries dealflow reach a new high of $22 billion last year, up from $5.5 billion in 2018. How big a market opportunity does credit secondaries represent?

Private credit as an asset class has seen tremendous growth over the past decade or so. Unrealised assets in private credit funds currently stand at around $1.5 trillion and are growing 10-15 percent annually. There are nearly 1,200 private credit managers globally, with new fundraising in the market coming in at around $200 billion each year.

Increasing exposure to an illiquid asset class like private credit means that more, and different types of, investors will ultimately need liquidity to accomplish their portfolio management objectives, which will drive secondaries dealflow.

This is part of the natural maturation of the market and follows what we’ve seen in the private equity market, where around 1.5-2 percent of unrealised asset value is turned over in the secondaries market each year.

Rick Jain joined Pantheon in 2019 to head up its private credit strategy, focused on secondaries and co-investments. He was previously a senior principal investment professional and investment committee member at several direct credit firms, including Stone Tower Capital, Green Brook Capital, Star Mountain Capital, and Citigroup Alternative Investments.