Why Private Credit Secondaries are the First Choice for Many Investors

Why Private Credit Secondaries are the First Choice for Many Investors

Private credit investors have long lamented the dearth of a robust secondaries market. Yet digital platforms like Heron Finance are building diversified portfolios of private credit secondary transactions for accredited investors; representing a dramatic shift in the overall investment landscape.

4 min read

The average investor may not realize it, but most investments are actually secondary investments. Every time someone purchases stocks or bonds on a public exchange, that is considered a secondary transaction.

A robust secondary market provides a lot of benefits to an asset class. The problem with private credit secondaries is that the market is anything but robust (although it is growing steadily).

Investors who can tap into this market can take advantage of some distinct advantages.

In this article, we’ll explain what private credit secondaries are, why they are so beneficial to investors, the risks and challenges of investing in them, and how digital platforms like Heron Finance provide U.S. accredited investors with an opportunity to access secondary transactions.

Key Highlights

  • Secondaries enable liquidity and greater transparency in markets by allowing market participants to sell their shares in the underlying security
  • Investing in secondaries carries numerous benefits, including the potential for enhanced risk-adjusted returns.
  • Unlike the public stock and bond markets, private credit lacks a robust secondary market. That is changing, however, as digital platforms disrupt the private credit landscape.

What are Private Credit Secondaries?

Private credit secondaries are when existing lenders sell some or all of their stakes in a private credit loan agreement. Such transactions provide lenders with liquidity, and afford them the opportunity to de-risk their loan portfolio.

Private credit secondaries also enable investors to gain exposure to the asset class–often at a significant discount–without having to go through the rigorous and time-consuming loan origination process.

There are two main types of private credit secondary transactions: GP-led and LP-led. GP-led transactions are when the general partner (GP) transfers a portfolio of assets to a new fund with participation from secondary buyers, and LP-led transactions are when limited partners (LPs) sell their stakes in a private credit fund to a secondary buyer.[1]

Growth of Private Credit Secondaries: A Virtuous Circle

The private credit secondaries market has grown rapidly in recent years, from around $17 billion in transaction volume in 2022 to an expected $50 billion by 2026.[2] This growth is driven by the expansion of the overall private credit market (now a nearly $2 trillion market), as well as increased demand for liquidity from investors.

The growth of the overall private credit market has led to a larger pool of mature private credit portfolios suitable for secondary transactions. This, in turn, has led to secondaries topping LPs’ list of the most attractive private equity strategies, according to a recent Peqin survey.[3] That same Preqin data found that fundraising for secondaries reached $93.8 billion in 2023, a 159% increase over 2022’s total.

At a recent panel discussion on the topic hosted by Preqin, Pieter-Jan Frederix, Partner at Private Equity Direct Investments, noted: “We see the need for secondary solutions to grow quite a lot. It provides a liquidity solution for the LPs, which in turn helps with fundraising by the GP. It’s a nice, virtuous circle.”

Diversification: The ‘Secret Sauce’ of Secondary Investment

Investors looking to acquire secondary stakes in private credit transactions often do so for the diversification benefits that such a strategy provides. There are numerous ways a secondary investor can diversify his or her private credit portfolio:[4]

  • Portfolio diversification: Unlike private equity secondaries which may involve a single asset, private credit secondaries typically consist of portfolios of deals. This allows investors to gain exposure to a diversified pool of private credit assets.
  • Manager diversification: Investing in private credit secondaries provides diversification across different private credit managers, rather than being tied to a single manager's track record and reputation.
  • Vintage diversification: Secondary transactions allow investors to access a portfolio of loans across vintage years, rather than being limited to a single vintage from a primary private credit fund.
  • Industry and geographic diversification: The diversified nature of private credit secondaries portfolios can provide exposure across different industries, sectors, and geographic regions, reducing concentration risk.
  • Borrower diversification: In a typical private credit secondaries portfolio, investors gain exposure to a diversified set of underlying borrowers, rather than being concentrated in a small number of credits.

The Benefits and Risks of Investing in Private Credit Secondaries

The key benefits of investing in private credit secondaries include:

  • Shorter durations: Private credit secondaries involve acquiring assets well into their lifecycle. This implies that the borrower has a lengthy track record of repayments in place.
  • Improved diversification: As mentioned previously, secondaries typically involve greater diversification opportunities than primary investments.
  • Risk management: Secondary investors can review the progress of private credit portfolios and juxtapose them against current market conditions, rather than relying solely on analysis of GPs to deploy capital.
  • Attractive valuations: The private credit secondary market can offer meaningful discounts to net asset value, providing downside protection and attractive yields.

The risks of investing in private credit secondaries include:

  • Structural complexity: Private credit secondaries transactions can involve complex structures that can sometimes require experienced analysts to navigate.
  • Asset quality concerns: The secondary market may include distressed assets, which require additional due diligence and structuring.
  • Liquidity mismatch: While private credit secondaries provide more liquidity than primary investments, the market is still relatively illiquid compared to public markets, and the ability to exit investments may be limited.
  • Valuation challenges: Pricing private credit assets in the secondary market can be difficult due to the lack of public market pricing, coupled with the bespoke nature of the underlying loans.

How Heron Finance Can Diversify Your Portfolio with Private Credit Secondaries

Investors looking to gain access to a broad swathe of private credit opportunities can do so via secondaries investment through digital platforms like Heron Finance.

Doing so addresses many of the above risks–as Heron Finance partners with experienced credit funds that manage the structural integrity of the loans, and perform the necessary due diligence on each deal in the portfolio.

Heron Finance also provides instant diversification benefits to investors, by offering a portfolio that is diversified across credit fund type, vintage year, industry and geography. Investors are therefore able to access a variety of private credit deals via a single digital platform.

And given that Heron Finance is a robo advisor, investors don’t need to worry about constantly monitoring and rebalancing their portfolios. The platform takes care of this for them–periodically rebalancing their allocations to align with their financial goals and risk tolerance.

To learn more about investing in private credit secondaries, click the signup button below and view the available deals on the Heron Finance platform.

  1. Source: CG - N.D. ↩︎

  2. Source: Pitchbook - Jan 30, 2024 ↩︎

  3. Source: Preqin - Jan. 2024 ↩︎

  4. Source: Preqin - Jan. 2024 ↩︎