The private credit industry has grown rapidly in recent years, emerging as a key alternative to traditional bank lending. Lonsec Research and Ratings has kept pace with this rise by refining their research process in early 2024 to incorporate sector specific risk and challenges.
The rise of private credit
EY has estimated the size of the Australian private credit sector to be A$188b in assets under management comprised of A$112b in business related loans and A$76b in commercial real estate loans (EY, 2024). The IMF has estimated global private credit at approximately US$2.1 trillion (IMF, 2024). This expansion has been driven by several factors, including banks’ retreat from riskier lending following the GFC.
Retail investors are following institutional investors and superannuation funds, by allocating capital to private credit as part of their portfolio diversification strategies, attracted by its historically strong risk-adjusted returns and low correlation with public markets.
Darrell Clark, Deputy Head of Research & Manager, Alternatives, Lonsec Research and Ratings, comments “Private credit can present compelling opportunities for both investors and borrowers but it also brings significant risks and challenges. Balancing opportunities with risk management is essential.’
The Lonsec approach
Foreshadowing the growth in Australian private credit funds, in early 2024 Lonsec updated its seven-factor private markets model and the governance framework overseeing the initiation of coverage.
Lonsec currently researches and rates 28 private credit funds, 20 of which are Australian Private Credit. In contrast to the global peer group which is heavily focused on direct corporate lending, Lonsec’s Australian peer group is 55% focused on multi-sector approaches and 45% on real estate lending.
In addition to the growth seen over the past three years, Lonsec has also declined to initiate coverage on multiples of those that have been contracted.
One key component of Lonsec’s research process is robust scoring models that have been developed over time and are reviewed on an ongoing basis by senior members of the Lonsec Research team. ‘We use a seven-factor model as the foundation for research ratings, with the Product factor specifically designed to evaluate the structure of the investment product under review. Prior to our Alternatives Sector Review last year, we enhanced the Product factor within our private markets model to better capture the additional risks associated with private market funds, such as illiquidity and valuation governance’, says Darrell Clark.
Lonsec also vets all requests for coverage looking at areas of heightened risk such as governance, vertical integration and/or related party issues, overall firm resourcing including workout staff, credit quality, and portfolio diversity and, only if a product meets minimum requirements, can it move forward into the Lonsec ratings process.
The focus areas outlined in the table below represent a selection of minimum hurdles or ‘gates’ and showcase examples of managers and funds unlikely to move forward in the Lonsec rating process.
| Factor | Areas of heightened risk | Lonsec focus area | Gated Example |
|---|---|---|---|
| Business | Governance | Evaluation of oversight frameworks to manage risk and ensure transparency. | Commercial interests represented on IC. |
| Start-ups | Cautious engagement with early-stage businesses, balancing opportunity with risk. | Business in its infancy spun out from the private sector with lack of audited track record. | |
| Vertical Integration and/or related party issues | Evaluation of the benefits and risks of integrated business models | Integrated property development and financing business with asset management lending to internal projects. | |
| Product | Expertise & Independence | Assessment of Investment Committee structures to minimize conflicts and enhance decision-making. | Clear equity-debt conflict on the IC with lack of independent oversight |
| Complexity of Warehouse structures | Assessment of structural nuances in financing vehicles and funding models. | Asset based financing structure with complexity, lack of transparency and look through to underlying counterparties. | |
| Team | Resourcing | Adequate personnel and systems to support portfolio management and due diligence. | Small team with lack of dedicated work-out resourcing. |
| Process | Portfolio Diversity | Maintaining a well-balanced mix of sectors, borrowers and loan structures. | Australian private credit funds heavily focused on development or with sub-scale number of loans. |
| Risk management/underwriting standards | Adequate portfolio oversight and monitoring supporting by underwriting standards | Higher than expected number of loans in arrears and/or loans in default. |
Lonsec remains vigilant to evolving market dynamics and ASIC’s ongoing review of private markets, ensuring our approach aligns with industry best practices and regulatory expectations. ‘Lonsec has been providing product ratings to Australian advisers for over 30 years, with our Alternatives rating team having a broad range of private market experience across several market cycles. We are highly aware of the trust placed in us by Advisers and their clients and as such, end investors are top of mind when we evaluate and rate funds,’ concludes Darrell Clark.
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About Lonsec Research and Ratings
Founded in 1994, Lonsec Research and Ratings has grown to become a pre-eminent Australian provider of investment and superannuation research and product ratings.
Comprised of the Lonsec Research, iRate and SuperRatings brands, Lonsec Research and Ratings is Australia’s leading research house, providing financial product ratings, market insights and portfolio construction tools to empower the financial advice industry.
With research and rating services consistently recognised as the best in the market for quality, breadth, and adviser support, Lonsec Research and Ratings helps Australians make better investment services.
Issued by Lonsec Research Pty Ltd ABN 11 151 658 561 AFSL 421 445 (Lonsec). Warning: Past performance is not a reliable indicator of future performance. Any advice is General Advice without considering the objectives, financial situation and needs of any person. Before making a decision read the PDS and consider your financial circumstances or seek personal advice. Disclaimer: Lonsec gives no warranty of accuracy or completeness of information in this document, which is compiled from information from public and third-party sources. Opinions are reasonably held by Lonsec at compilation. Lonsec assumes no obligation to update this document after publication. Except for liability which can’t be excluded, Lonsec, its directors, officers, employees and agents disclaim all liability for any error, inaccuracy, misstatement or omission, or any loss suffered through relying on the document or any information. ©2025 Lonsec. All rights reserved. This report may also contain third party material that is subject to copyright. To the extent that copyright subsists in a third party it remains with the original owner and permission may be required to reuse the material. Any unauthorised reproduction of this information is prohibited.
