‘ASIC has called on industry bodies to lift their standards across Australia’s private credit sector’. Report 814 (Report), analysed Australia’s private credit landscape. The regulator interviewed over 30 industry insiders to identify areas needing improvement, while also recognising positive practices within the sector. Provided below are key takeaways from the Report and a recent example of stop orders issued by ASIC against private credit funds.
Growth of Private Credit in Australia
The Australian private credit sector has seen a sharp increase since the Global Financial Crisis. The market now has an estimated worth of $200 billion. Factors contributing to the growth include:
- Following the Global Financial Crisis, tighter bank lending rules made loans harder to obtain, creating opportunities for private credit to fill the gap.
- Mandatory increases to superannuation contributions, resulted in greater funds available for investment.
- Investment portfolio diversification, saw an uptake in alternative investment allocations including private credit.
- Overseas fund managers establishing a presence in Australia to access private credit opportunities, including Australia’s growing superannuation capital.
- An increase in private wealth investors.
Areas for Improvement
The Report outlined key areas for improvement, including:
- Management and transparency of conflicts of interest, with a focus on fee structures, loan structures, valuations, related party transactions, and unequal or preferential treatment of investors.
- Valuation practices. Focus areas include frequency, independence, loan valuations as opposed to asset valuations, methods of valuation (appropriate to the industry), and recognition of impairments.
- Clearer and more transparent fee structures.
- The rising demand for liquidity. Presently, there appears to be some discrepancy between investors’ expectation of liquidity and funds’ actual liquidity.
- Clear and transparent information about distribution payments. Some distributions are being paid from new investor contributions as opposed to cash flow, and this needs to be made clear to investors.
- Governance practices are inconsistent across the industry. However, good governance is indispensable for all funds. Private credit is a complex asset class, and all firms, regardless of size, require sophisticated internal governance structures to appropriately manage private credit.
Good Practice
The Report outlined good practices for the industry, including:
- Fees: disclose all fees and remuneration to investors.
- Portfolio disclosure: provide investors with quarterly reports on loan and portfolio information.
- Valuations: conduct quarterly independent valuations and provide valuations for the benefit of the lender.
- Related Party Transactions: No related party transactions without sign-off from an independent third party.
- Governance: funds should appoint an independent trustee or independent members to a Responsible Entity board.
- Investor Treatment: investors should receive equal treatment regarding fees, terms and conditions.
Recent ASIC Intervention in Private Credit
Just days before the Report was published, ASIC made interim stop orders against La Trobe Financial (La Trobe) for its Australian Credit Fund and US Private Credit Fund. Based on La Trobe advising investors to direct an inappropriate amount of their portfolio to those funds, despite the funds involving an ‘above average amount of risk and volatility or loss of principal.’ This was also to ‘protect consumers and retail investors from acquiring products that may not be suitable for their financial objectives’. The stop orders have since been lifted after La Trobe made amendments to the target market determination. ASIC’s action aligns with the Report and demonstrates the regulator’s willingness to scrutinise the behaviour of private credit funds.
Outcome
‘Ongoing trust and confidence in the sector will depend in part on the conduct and performance of all market participants, including managers, trustees, auditors, advisers, valuers, and research and fund rating house.’ The Report provides valuable guidance to individuals and companies operating in the private credit space. ‘ASIC expects meaningful action in response to these findings and will not hesitate to intervene where progress falls short.’ Private credit funds are encouraged to address deficiencies outlined in the Report and incorporate recommended good practices if they have not already.
Further Information
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