Warning to DIY super funds over booming $200 billion sector

3 months ago 36

DIY super funds and retail investors have been issued a fresh warning about the risks of joining the rush into the $200 billion private credit market, after a new report underlined the sector’s concentration in risky real estate lending.

One of the fastest-growing segments of finance is private credit, which refers to lending that takes place outside the banking system. Instead of coming from bank deposits, the money loaned by private credit funds is raised from investors directly, including superannuation funds large and small.

Savings held in superannuation funds has helped to fuel the growth of private credit.

It’s a type of lending that has surged since the global financial crisis, as investors have filled the gap left by more cautious banks, which have curbed riskier business lending, such as to property developers.

But the boom in private credit has also prompted scrutiny from regulators around the world, and a new paper commissioned by the Australian Securities and Investments Commission (ASIC) warns of the potential risks from this more opaque and less regulated form of financing.

The report, by infrastructure investment executive Richard Timbs and former ANZ executive Nigel Williams, warned that a key risk in the sector was the heavy concentration in real estate lending, in particular when unsophisticated investors were putting their money into this market.

About half of the $200 billion in private credit loans in Australia were in real estate finance, which is generally regarded as a riskier type of lending, it said.

The largest super funds were typically investing in private credit funds with transparent fees and valuations, it said, but it questioned whether smaller retail investors fully understand the risks they are taking on.

“The concentration of Australia’s private credit market in higher-risk real estate construction and development is where we see the greatest area for improvement for investor protection and market integrity,” the report said.

“This market segment has a higher concentration of investors using the wholesale sophisticated investor exemption, and with less transparency on conflicts of interest, manager remuneration disclosure, and valuations and portfolio reporting.”

Lending for real estate construction and development has been the biggest cause of bank credit losses in past economic downturns, the report said. It also said the proportion of private credit going into real estate finance in Australia stood out compared with overseas.

The report said the “greatest area of opacity and investor risk” is when retail investment was flowing into real estate private credit.

“A number of the real estate funds targeting self-managed superannuation funds offer monthly distributions of approximately 0.70–1.00 per cent, despite these loans not generating regular interest payments. The question needs to be asked as to whether distributions are being paid from capital – from loan capital drawdown or new investor funds,” it said.

“More transparency of the cash income the funds produce to support fund distributions to investors is needed.”

ASIC chairman Joe Longo, who on Friday announced he would step down next year, said there was a need for higher standards in the industry.

“While the report highlights some encouraging practices, it also reveals concerning behaviours that fall short of market expectations and more importantly that are inconsistent with existing financial services law,” he said.

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