Is Private Credit Australia’s New Megatrend?
And what it means for the property market.
5 min
OPINION
The modern-day world we are living in is growing increasingly high-tech and fast-paced. Consequently, Investors are faced with much more pressure, decisions, choices, and information than ever before.
Many years ago, investor demi-gods, such as Warren Buffet, at the start of their careers, sent out handwritten letters to listed companies requesting financials and prospectuses, which took weeks to receive.
In today’s efficient markets, where we all have equal access to an abundance of information at our fingertips, new information is instantly distributed and analysed virtually instantaneously by all market participants, thus making it near impossible to gain an advantage over the market.
What techniques are investors turning to today to gain meaningful glimpses of the future with the hope of investing more confidently?
What Is a Megatrend?
Megatrends are long-term trends transforming the way we live, work, and play. The driving forces are caused by macroeconomic changes, technological gains, a shift in migration, and social changes.
To understand the full power of Megatrends, one must look to the past.
A prime example is Bill Gates’ vision that a personal computer could be a powerful tool used by everyday households. Interestingly Gates was not the only visionary with the same idea at the time; the difference was his superior business acumen and the pivot in building the Microsoft operating system to enable this technological transition from concept to reality.
When seeking the insights of Megatrends for success, It is critical to acknowledge that the market is a collective of people, and as a result, markets tend to boom and bust while inevitably moving in traditional cycles.
My favourite Mark Twain once said, “history does not repeat itself, it rhymes.”
It is impossible to predict the timing of the next boom or bust consistently. Still, you can prepare yourself through diversification and understanding that certain asset classes will follow predicted behaviour over time.
So, what are some of the Megatrends that Msquared can see on the horizon being a specialist direct commercial mortgage fund manager?
Interest rates internationally
Indeed, we are living through uncharted territory regarding low-interest rates globally near-zero official interest rates set by most Central Banks globally, primarily to combat the negative economic impacts of COVID -19 now and into the foreseeable future.
In Australia, the Reserve Bank’s primary role is to set official interest to a level to stimulate both consumers and business activity while not allowing for the market to overheat with higher inflation. The bank’s traditional targeted inflation band is 2%-3%. If longer-term inflation increases beyond 3%, interest rates will reluctantly need to increase to place downward pressure on asset values.
That said, with the official cash rate at 0.10% p.a., the by-product of cheap credit has pushed up the value of assets such as real estate and shares, far beyond most expectations, despite being in the middle of one of the most economically challenging times due to the COVID-19 pandemic.
The five and ten-year bond rates are presently sitting at circa 0.63% and 1.18%, respectively. The combination of the most brilliant economists and bond traders believe that the official cash rate over five years may only go up by 0.5% and, possibly, 1.1% over ten years, which is essentially negligible.
The current bond rates infer that we will be operating in a very low-interest environment for a very long time. Accordingly, the expectation is that asset prices will likely keep going up until they become unaffordable or investors stop seeing any value in holding those assets.
Therefore, the Megatrend that we envisage is a continual and gradual yield compression (decrease in returns) for property, shares, and other tradable assets.
The free cash flow from these investments will continue to contract further, making it even harder for investors to generate the appropriate level of income required, especially for SMSF trustees and self-funded retirees.
The main two events that would change this outlook would be higher inflation, thus pressuring Central Banks to increase interest rates sooner, or an out of sequence market correction/crash bringing about loss of confidence due to an unexpected event.
Property
Regular readers will know my view regarding property’s resilience and its contribution to the overall health and stability of the economy.
The Australian love affair with property and homeownership is now at 67%, due to the highest net overseas migration for the period leading up to the COVID-19 outbreak and together with the supply constraints that have been added due to an inefficient planning process. As discussed in my June article, ‘Australia Is The Lucky Country’, Australians are now the wealthiest people per capita globally.
The price gap between units and detached houses has widened to the most significant gap in recorded history.
The Megatrend is that we believe that this will be reversed, however, with a twist. It is our view that the demand and price growth for the luxury, larger apartments that offer superior amenities will not only be highly sought after but will also become the best performing type of property within its asset class.
With baby boomers’ increasing requirements for downsizing accommodation in combination with the proposed restart of skilled affluent migrants coming to Australia at the end of the year, the demand for the high-end luxury apartments segment will only increase.
Australian Private Credit coming into Vogue
Australia, compared to the US, European, and other Asian counterparts, is lagging substantially behind when it comes to these ongoing global Megatrends.
Just over 70% and 46% of all commercial loans are written in the US and Europe by private credit providers, also known as non-bank lenders; In Australia, it is a mere 8%.
This class of investment offers the ability for investors to have ownership of the mortgage, earn more than 6% p.a. while having the security against real property. This investment generates regular income with a proven track record in preserving investor capital in any market cycle and volatile markets.
The investors in US receive returns of circa 3% p.a. due to the maturity and competitive nature of the overseas private credit market. In comparison, this is less than half of what is offered by Msquared for a similar style of investments, as our returns start from 6.50% p.a.
Considering we are operating with the same close to zero interest rate environment globally, this is significant.
We believe that demand from Australian commercial borrowers to have options other than funding through our major banks will continue to grow as reflected by the funding gap, last reported to be over $119b.
Due to ongoing government regulations and interventions, the ability of private credit providers to offer bespoke solutions, ease of capital, service and speed, private credit providers will continue to grow.
Investors are slowly learning the benefits of investing indirect commercial mortgages and seek out these opportunities. Institutional investors weigh their support into the sector both due to the lack of ability to generate consistent regular income from other investment classes and due to recognition of resilient qualities offered by real property, enabling asset preservation within the portfolio.
As the market matures, the appreciation for contributory funds will increase. Savvy investors will seek higher transparency, ethical investment requirement, and a direct line of sight of the underlying security on offer while having the added benefits of superior returns rather than a pooled fund.
Contributory funds allow more control to the investor by having these choices. The function of a contributory fund is that each investment is a separate ring-fenced opportunity, whereas pooled fund, as its name indicates, has many mortgages within one investment vehicle.
The contributory fund places the investor in the driving seat, allowing them to create their personalised unique investment portfolio in this asset class.
The Megatrend is that there will be a structural change on how and who will provide commercial loans in Australia, reflecting the path experienced in the US and European debt markets.
Paul Miron has more than 20 years experience in banking and commercial finance. After rising to senior positions for various Big Four banks, he started his own financial services business in 2004.
Consumers are going to gravitate toward applications powered by the buzzy new technology, analyst Michael Wolf predicts
Chris Dixon, a partner who led the charge, says he has a ‘very long-term horizon’
A new AI-driven account by leading landscape architect Jon Hazelwood pushes the boundaries on the role of ‘complex nature’ in the future of our cities
2 min
Drifts of ground cover plants and wildflowers along the steps of the Sydney Opera House, traffic obscured by meadow-like planting and kangaroos pausing on city streets.
This is the way our cities could be, as imagined by landscape architect Jon Hazelwood, principal at multi-disciplinary architectural firm Hassell. He has been exploring the possibilities of rewilding urban spaces using AI for his Instagram account, Naturopolis_ai with visually arresting outcomes.
“It took me a few weeks to get interesting results,” he said. “I really like the ephemeral nature of the images — you will never see it again and none of those plants are real.
“The AI engine makes an approximation of a grevillea.”
Hazelwood chose some of the most iconic locations in Australia, including the Sydney Opera House and the Harbour Bridge, as well as international cities such as Paris and London, to demonstrate the impact of untamed green spaces on streetscapes, plazas and public space.
He said he hopes to provoke a conversation about the artificial separation between our cities and the broader environment, exploring ways to break down the barriers and promote biodiversity.
“A lot of the planning (for public spaces) is very limited,” Hazelwood said. “There are 110,000 species of plants in Australia and we probably use about 12 in our (public) planting schemes.
“Often it’s for practical reasons because they’re tough and drought tolerant — but it’s not the whole story.”
Hazelwood pointed to the work of UK landscape architect Prof Nigel Dunnett, who has championed wild garden design in urban spaces. He has drawn interest in recent years for his work transforming the brutalist apartment block at the Barbican in London into a meadow-like environment with diverse plantings of grasses and perennials.
Hazelwood said it is this kind of ‘complex nature’ that is required for cities to thrive into the future, but it can be hard to convince planners and developers of the benefits.
“We have been doing a lot of work on how we get complex nature because complexity of species drives biodiversity,” he said.
“But when we try to propose the space the questions are: how are we going to maintain it? Where is the lawn?
“A lot of our work is demonstrating you can get those things and still provide a complex environment.”
At the moment, Hassell together with the University of Melbourne is trialling options at the Hills Showground Metro Station in Sydney, where the remaining ground level planting has been replaced with more than 100 different species of plants and flowers to encourage diversity without the need for regular maintenance. But more needs to be done, Hazelwood said.
“It needs bottom-up change,” he said. ““There is work being done at government level around nature positive cities, but equally there needs to be changes in the range of plants that nurseries grow, and in the way our city landscapes are maintained and managed.”
And there’s no AI option for that.
Consumers are going to gravitate toward applications powered by the buzzy new technology, analyst Michael Wolf predicts
Chris Dixon, a partner who led the charge, says he has a ‘very long-term horizon’
