This research piece was co-authored by Grace Qiu, Senior Vice President, Economics & Investment Strategy, GIC; Yap Zhihui, Vice President, Economics & Investment Strategy, GIC; Daniel Luo, Associate, Economics & Investment Strategy, GIC; Christian Frei, Partner & Head of Risk, Private Debt, StepStone; Mark Lickes, Managing Director, Private Debt, StepStone; Ekamon Virattipong, Director, Private Debt, StepStone; and Guglielmo Russo Wälti, Analyst, Private Debt, StepStone.
Executive Summary
This paper aims to provide an overview of private debt investment opportunities and introduce a systematic framework for optimising private debt allocations in institutional portfolios. It consists of three key components:
- First, we model the risk and return considerations for a comprehensive range of private debt assets. Due to the unique nature of private markets, it is challenging to find measures that can reflect fundamental drivers while remaining consistent with the risk-return metrics for portfolio construction in public markets. We propose using net credit spread and credit stress loss as return and risk measures as they satisfy both requirements.
- Second, we determine what we believe to be the ideal composition of private debt portfolios at different levels of target return using a robust optimisation approach with capacity constraints. Through a case study, we demonstrate how investors can effectively integrate private debt into a 60/40 portfolio to achieve various investment objectives such as enhancing returns or reducing risk.
- Last, we discuss the implementation of private debt allocation and ways to enhance risk-reward using dynamic and opportunistic levers.
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