Note: This episode was recorded before the release of ASIC’s Private Credit Surveillance Report 820. The ASIC report mentioned in the podcast relates to the Private Credit in Australia Report 814, released in September 2025.
In this episode of the [i3] podcast, I’m speaking with Linda Cunningham, who is the Head of Debt and Alternatives at Cbus Super. We talk about some of Linda’s core beliefs when it comes to debt investing, including the banking 101, to be very careful when borrowing short and lending long at the same time. We discuss the importance of cash flows and ensuring the ability of a borrower to pay their interest. We discuss liquidity in mortgage funds and private credit funds aimed at retail investors, as well as the occasional funky fee structure. We even talk about how Linda once provided a loan to finance a catamaran called the soggy moggy. Enjoy the show!
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Overview of podcast with Linda Cunningham, Head of Debt and Alternatives, Cbus
03:00 My father was a bank manager and I wanted to get into banking at an early age
04:00 In year nine, I had a discussion with a teacher about the difference between a bank and a building society
05:30 Late 80s, the property market was booming, but interest rates were high. One of my jobs was to drive to Geelong and go through the credit files. One of the lessons out of that was how important cash flow is for a loan. Where is the interest coming from to pay you?
11:30 Matching liquidity profiles, the case of AXA products marketed to retail clients. “Having daily liquidity is great, until it is not”
17:30 You can finance anything, I’ve financed a catamaran, but it is about where it sits in the portfolio
18:30 Setting up the internal credit capability for Cbus. “You are coming from a bank and so you don’t think about who is going to communicate with the borrower what the interest rate is”
19:30 “I started in 2016, but we didn’t write our first loan until 2019”
20:30 Financing a catamaran, the ‘Soggy Moggy’.
22:30 Debt is not like equities; you can’t just go out and buy a ready-made portfolio
32:00 There is no pressure for us to allocate money [to loans], we can give that money to managers
34:00 On occasion, we are seeing some ‘funky [fee] structures’.
36:00 Private credit is not new; there have been mortgage funds operating in Australia for at least 30 years
38:00 What is getting more focus is: where is the private credit sector getting its money from?
40:00 I do worry about the flow-on effect from what is happening in retail products
41:30 The market is very competitive on loan transactions at the moment, are people pricing risk appropriately?
45:00 It takes someone really strong, who gets paid on funds under management, to say no to the funds, whereas at Cbus we don’t have that tension. I can look at other credit managers
49:00 On the internal front, we would like to do a little more construction deals. We think there is going to be a little more residential over the next year or so
50:00 We are not sure if in affordable housing equity is the way to go. But we do think that with debt you get an appropriate return for your risk
Full Transcript of Episode 123
Wouter Klijn 01:16
In this episode of The [i3] podcast, I’m speaking with Linda Cunningham, who is the head of debt and alternatives for Cbus Super. We talk about some of Linda’s core beliefs when it comes to debt investing, including the banking 101, to be very careful when borrowing short and lending long at the same time. We discuss the importance of cash flows and ensuring the ability of a borrower to pay their interest. We discuss liquidity mortgage funds and private credit funds aimed at retail investors, as well as the occasional funky fee structure. And of course, we delve into the state of the private credit market and ASIC’s recent comments on the sector. We even talk about how Linda once provided a loan to finance a catamaran called the soggy moggy. Enjoy the show!
Linda Cunningham 02:06
Linda. Welcome to the podcast. Thanks for having me, Wouter.
Wouter Klijn 02:09
So your journey started a bit unusually compared to maybe some of your peers. I believe you started in the industry when you were just 15 years old. How did that happen?
Linda Cunningham 02:20
That’s correct look, and I’m going to age myself here, but we are talking, you know, the early 1980s I had grown up. My father was a bank manager, so I had, from a very early age been exposed to banking, and by the time I was finishing year 10, I had a decision to make, which was, you know, Did I did I want to go on to year 12? Did I want to go on to university? I knew I wanted to end up in banking. Superannuation funds didn’t really exist at that time, but I knew I wanted to get into the lending side of things, and I had the opportunity to actually start working in the local branch at the bank, a different bank to where my father was, and I enrolled to do a TAFE course. So I did a Gosford Teik, an accounting course three nights a week for four years. So once I finished that, I enrolled in doing my degree by we’ll call it remote learning. In those days it was called by a correspondence. Yeah. So by the time I was 23 I had been working for eight years, three years in a branch and five years in the corporate banking area, yeah. And I had my degree.
Wouter Klijn 03:40
Excellent. And I think there was an anecdote where you even on the school playground would discuss monetary policy or something.
Linda Cunningham 03:49
Look, I do remember, in a commerce class in year nine, having a debate with my teacher about the difference between a bank and a building society. And apparently I was, I was quoting the Banking Act of 1959 in those discussions to tell him there was a difference, right?
Wouter Klijn 04:09
Right. Not your average conversation, I think, for a teenager.
Linda Cunningham 04:12
No. But look, it had been something that had always interested me. And look, I still now people have various dreams. One of my dreams is always rolling coins. So yeah, rolling up the 20 cent pieces and 50 Cent pieces into the pieces of paper. I can still do that in my head,
Wouter Klijn 04:31
Very good. There’s probably muscle memory comes into play with that one. So having started relatively young, you’ve seen probably a few financial crisises. I think the 1990 collapse of the Geelong based pyramid building society was one of them. Can you share some of your learnings from some of these downturns with us in terms of how it shaped your outlook on investing?
Linda Cunningham 04:56
And look, that was absolutely a very interesting time to be in the lending space. I had moved from New South Wales to Victoria with my work. And, you know, late 80s, everything was booming in property, everything was booming everywhere. But you also had interest rates pretty high. And, you know, the market was, was, was very hot, and the bank I was working for had exposure to all of the pyramid associated companies. So there were actually four building societies there. And we were actually doing what these days would be called a warehouse loan. So we’re effectively providing them, you know, with the loan, 80 cents in the dollar, based on a, on a on a pool of mortgages, and those loans, the underlying loans, would be some commercial property. They’d be residential. It’d be a whole mix of things. And one of my jobs I got to do was to get on the freeway and head to Geelong every few months and actually sit there and look through the credit files. There was you couldn’t get them on Excel. You couldn’t log into a data room. You’d actually go in and sit there in the premises and look through those credit files. And I think for me, one of those, the sort of lessons out of that was, was really how important cash flow is for a loan. You know, if you are, you know, in our case, we’re expecting, you know, the borrower being, say, pyramid building society, to still pay our interest. But you know, if you’ve got a pool of loans that are in there, that are just secured against a vacant block of land or a non income producing property, where is the where’s the income coming from, where’s the interest coming from, to actually be able to pay you? And I think that was, that was probably one of the strongest sort of lessons that I actually had, was really how critical income is. And I would say that was even important. If you looked across, you know, the banks books at that time, and a couple of other names you’ve got to mention from that era. You can’t not mention the state mortgages tri Continental, all of the state banks, like I work for State Bank of New South Wales, which actually was in a pretty good state, but we’re probably still in that time whereby we actually had a large proportion of our property based loans, which were from an LVR perspective, we had breaches, right? And it was one of those situations where you we actually did okay, like those loans were were pretty good, because the income was still solid on them. The borrowers were still earning enough income from these assets to actually be able to pay the interest. But, you know, they suddenly went from having a loan to valuation of, you know, 60% to 80 or 90% breaching covenants, etc, just really because of the rapid change in interest rates in the market and the impact on on property values,
Wouter Klijn 08:02
yeah, and I think that importance of knowing where the income come from and the underlying assets that sort of carries through through time. Because I think we recently spoken about a loan, and we won’t name any names, but it basically looked like a term deposit. But when you looked under the hood, it was something very different, with very different liquidity profile,
Linda Cunningham 08:24
Absolutely. And look, that’s, that’s not a new thing. You know, it has its place. It is just understanding how you’re matching what you’re what you’re doing. I mean, we, we do do construction loans, and generally most construction loans, particularly you, if you’re building, say, an apartment complex or something like that, your your only income, your only earnings that come in is when your pre sales of those residential apartments settle. So you are capitalising interest on on your loans. Now I think that’s absolutely fine if you’re understanding what you’re investing in and understanding what you’re expecting out of that investment,
Wouter Klijn 09:09
Yeah, and as long as you understand the risk profile, because you know, if you expect the term deposit, then you find underlying assets that have maybe seven, eight, sometimes 30 year maturity rates, then that’s quite a mismatch, of course, and it sort of comes back to what I think I’ve heard you talk about, this sort of banking 101, where you basically have said you never borrow short and lend long at the same time. Can you explain a little bit that philosophy and how that comes back today in your approach.
Linda Cunningham 09:42
I mean, when you think about banks or or any form of money lender, you know the reality is you, you need to raise your funds from somewhere, and then you’re lending it out. And most organisations, or most of those structures, banks, in particular, I mean, banks run raise funds for. From long term capital markets. They have equity in place. They have subordinated debt in place. They have term deposits from from people. But they’re, they’re consciously thinking about the overall asset liability matching. And I think that’s, you know, that classic thing I worked at AXA, so I moved to AXA once I left banking. So I moved there in in 2000 or 2001 I was there for over 12 years. So that obviously covered the GFC as well. Yeah, and look, you know, AXA had what they referred to as an income the mortgage funds were income funds, Australian mortgage Income Fund. Those funds were providing commercial loans to small corporates. So you know, they were traditionally the sort of four to $20 million sort of size loans. Really good book, really good quality book. There are a few others in the market, like perpetual, very similar. I mean, probably 40% of the assets in that portfolio were actually your neighbourhood shopping centres. You know, the ones where you’ve got Coles, Woolworth, your chemist, your butcher, those sort of things. So good income producing assets. But those products were to retail and wholesale investors, and as part of the characteristics of those funds, they did have the ability to have daily liquidity, and that’s great, until it’s not. I mean, there was nothing wrong with those loans that were in that book. And for you know, the entire life of of that particular fund, it had been in net inflows every single month, up until September 2008 and then by 2008 you had the Australian Government introduced the deposit the deposit guarantee, straight away, that really reinforced for people, the difference between something like a mortgage fund or a private credit fund or any other sort of funds. And you’ve got to remember, these things have been around for decades. You started off with debenture funds and so on, suddenly realised that it’s very different to being with the bank. And look, you know that that fund was, was frozen in October 2008 we at that stage, we had one problem loan across the whole period of time, one problem loan, but our investors had to wait, you know, three to four years to actually get their money back, because we had commitments in place for loans. And often loans will repay you early, but you can remember it’s it’s also GFC, it’s hard to refinance. So borrowers weren’t going to repay you back early unless they, you know, unless they wanted to. So, you know, I think that for me, really highlighted that aspect of, you know, borrowing short daily liquidity and offering a product or that, or investing in something at the back of that that is a longer term investment.
Wouter Klijn 13:24
Yeah, yeah. Because, essentially, to provide that liquidity, then you either have to build in a cash cash pool, which will have a drag on returns, or you rely on new investors coming in, which is, you know, of course, not guaranteed, but, but those structures are still around, right?
Linda Cunningham 13:44
Look Absolutely and we already use the word pyramid, but it is. It’s one of those things I mean loans, private credit is good. Loans are good. You’ve got to remember, we’re still talking generally at the top of the capital stack. So the asset class, I like, it’s, you know, just making sure that investors understand what what they’re getting in assets. These assets will produce income coming off them, so there’s always a little bit of income coming out. But unless you’re actually getting loans that are repaying during that period, or, as you said, new investors coming in to pay out the old investors. It works until, as I said, until it doesn’t.
Wouter Klijn 14:34
Yeah, no, that’s, that’s very true. I can remember that period. Actually, I was just starting at Morningstar, and suddenly all these funds started to lock up. And there was plenty to write about to tell you that, but it was a very interesting period, for sure.
Linda Cunningham 14:50
Look, I remember it quite vividly. I mean, I was, I was involved in actually looking at some of the hardship requests that came through. And. That is absolutely devastating to see that, you know, there were people who had sold their home, and the advisor had told them to put it in this account because it was, you know, it’s like a term deposit, or it’s a cash account. Don’t worry about it. And then they go to buy a new home and they don’t have their money anymore. Situations where people who had saved a deposit had been saving it because the interest rate was that little bit higher, they’d been saving their deposit there they couldn’t access their deposit. There were situations where people had been putting aside money for their wedding, money set aside for funerals, other family events that were taking place. And when you read the the hardships, provisions, I mean, that’s, you know, it’s very tough, and you feel for people who just haven’t understood or haven’t realised that this situation could happen, that when they do want their money back, they won’t get their money back. So it is about, you know, is it right for the person and how much, how much they should have in those kind of structures?
Wouter Klijn 16:11
Yeah, and that brings a very sort of practical face to liquidity. Because I can also remember, you know, this, you know, the famous book, The Big Short, where they’re talking about these investments in subprime loans, and basically they put this trader forward as this genius trader, but his funds locked up. And you sort of justify that by Well, if you go out now, then you lose all your money, but if you stay for a while, then you make a lot of money, but the investors might have different liquidity requirements, so you can’t just tell people like you’re not getting your money back, right?
Linda Cunningham 16:46
No, look, it is. It is just challenging. I, as I said, I think loans is great. I’m I’m too conservative. You know, it is about I like loans. I love looking at them, you get to see so many different asset classes across my career, working in banks. Look, I’ve done things from hotels to hospitals. I’ve done seed lots, I’ve done abattoirs, I’ve done a catamaran. There’s some really interesting things that you can finance. Because the reality is you can finance anything but, but it is about where it fits into a portfolio.
Wouter Klijn 17:32
Yeah. And that brings us sort of to the direct lending business, because you originally joined Cbus in 2016 to set up the direct lending business for the fund. What were some of the main challenges to get this off the ground?
Linda Cunningham 17:49
Look, I would say it was, it was very much at the beginning of sea buses, internalisation journey, I probably thought that there would be, when I arrived that there would be more processes and procedures and things like that in place. The operational background that Brett Chatfield is is is very determined and very clear on what he wanted to achieve. So when I arrived, I spent quite a lot of time working with him in terms of, you know, just setting up the whole, the whole processes, the procedures, the Credit Framework, you know, the delegations, the whole process for a credit cycle. I mean, we do have, you know, a credit process and framework, which is, you know, 4050, page document that gets updated each year in terms of making sure that everyone in the team is consistent in how we think about, you know, the debt side of things, and what we look for, what you’ve got to address in your credit manuals or in your credit papers and things like that. So there was a lot of work that was was done in putting that in place. But also, you come from a bank, you don’t even think about who is going to produce the interest statement for the borrower, who is going to communicate with the borrower and what their interest rate is. So there was a lot of work with our operations team to make sure that we could actually put those, those things in place. And of course, don’t forget your regulatory things. You know, all of a sudden you’re going okay. So do we have lending as a designated service on our AML KYC policy? Where are we on the regulatory side of things? So I started in the end of 2016 we didn’t write our first loan until the beginning of 2019 Wow.
Wouter Klijn 19:43
Okay, that’s how long it took to set up all the processes.
Linda Cunningham 19:46
Exactly. Look at the same time. And you know, that was, I was looking after the rest of the global credit sector at that stage. And so, you know, we you still had your day to day, you know, with your managers and things like that going on. But it was very much we need to take our time in setting this up, thinking about where we want to play in the market, and how and and when we want to play. I think, yeah, important aspect of it.
Wouter Klijn 20:15
Do you still remember some of those early loans that you made in 2019 I presume the catamaran that you just mentioned was not until later.
Linda Cunningham 20:24
The catamaran was back in my banking days. Okay, I’ll confess this thing ended up being called the Soggy Moggy it was. It was a catamaran that was supposed to sail from Victoria to Tasmania, and it was a deal that State Bank of New South Wales did with, think, at the Bank of Tasmania, or whatever it was, a state government sort of initiative, let’s say it was fine. We got our money back, because we actually had a put option on that catamaran for it to be sold to a European company that was actually going to sell it across the English Channel. So it was fine, but yes, that was that would not be something that Brett or Christian or even Lee now would be very comfortable in in us putting in the book.
Wouter Klijn 21:18
That’s That’s unfortunate, because I’ve just got a plumber around who I talked to and is in sea bus, but so I can’t tell me on a miniscule part of catamaran. So, but what were some of those early direct loans that you got involved in, in 2019
Linda Cunningham 21:38
Things that we got involved in those early days were things like mainly syndicated transactions. We were very clear that if we were going to do bilateral loans with people in the market, that’s really labour intensive. So for us, this is an institutional loan portfolio where we’re looking to participate alongside banks in the syndicated loan market. So we’ve been in, we’re in shopping centres, office buildings, a couple of transactions that we didn’t end up doing, that we bid on and then were under priced in. So a couple of those loans are still in our book. Yep, been good performers. Very happy with what they’ve done. They’ve performed the way that they were supposed to to go, but it was, it was slow, but that’s what the organisation was really clear. It wasn’t about. You know, debt is especially this type of loans. Is not like equities. You can’t just go out and buy a ready made portfolio. And aim was to think carefully about what, what we put on the book. Because when you write a loan, you you are in the situation that Australia is not a big trading market. You can buy and sell loan, but not a lot of that takes place. So if you invest in a loan, you have, you have to live with that loan. So it was about making sure that we were cautious about what we got invested in and at the same time. And the thing that, I guess continues to this day, is we don’t have to write a loan. We would like to grow our loan book. It’s an important, and we think, a valuable part of, sort of the global credit sector. But the same time, if we actually don’t see that we’re getting good opportunities or good deals to do, the team’s not given dollar targets. The team’s given a return target, and you know, a long term objective as to where we see that as a manager weight so if they’re not seeing good deals, and you even, recent times, we’ve seen that we’ve knocked back deals not because they’re not good borrowers, but because, really they have the structure hasn’t been right, and the pricing is not reflected the risk.
Wouter Klijn 24:04
You did make some some loans during the covid pandemic, which you know probably wasn’t that long after you actually started first investing. What gave you the confidence to do that,?
Linda Cunningham 24:17
Really, that was, I would have to say, Kristian was, was really strong leadership across that period of time? And you can’t you’ve got to forget. You’ve got to remember that what was happening in the superannuation industry at the time we had early release happening, and my team also manages the cash for the fund. So front of mind, we were seeing all of the requests coming in for early release. That Kristian was, you know, this is a time of challenge, but it’s a time of opportunity as well. And he was very clear that he wanted us to be that’s the entire investment team thinking about what the opportunities were. So I think from the. You know, around about the 20 months from April 2020, we did probably about $1.2 billion worth of investing in the direct debt strategy. Okay, we did a couple of residential construction projects where we sort of, you know, we had definitely had one transaction, which had been knocked back by a bank because of the covid pandemic and the uncertainty about what was going to happen on construction sites and so on. But we didn’t couple of others as well whereby, you know, we just knew that you needed to get these things built. They were good opportunities. They were, were comfortable with pre sales, were comfortable with the builders. It was great opportunities to do transactions and provide good, solid returns for the members. And look, it wasn’t just loans. We’re also our portfolio is quite has a really broad remit. So we’re buying corporate bonds as well at that at that particular time, and getting some fantastic opportunities to get funds invested for the members. So you’ve got to remember them. Yes, you had members leaving, and you had to make sure you’re meeting those but you also had managed members who were staying, and you needed to take care of the returns for them as well.
Wouter Klijn 26:22
Yeah, yeah, I can imagine, with Cbus being, you know, for the construction industry, that there’s a fair few sole traders as well that probably made use of access to the early release and hardship rules, maybe because they wouldn’t be able to get out and perform their jobs.
Linda Cunningham 26:40
Look absolutely, I think that was consistent across the whole sector. You know, those early days you were stopping and trying to work out, well, how many of our members may be eligible for this? And if you remember, some of those rules were really just a self certify structure. And you know, a lot of people who were nervous about what was going to happen, and it’s about, I need this opportunity is in front of me. I need to take advantage of it. While is there Cbus, as well as other funds, have also done the numbers to see what that has impacted on the long run for people from their superannuation balance perspective. But at the time, I guess you know, that was the right thing for people to do.
Wouter Klijn 27:29
Yeah, so Kristian Fok was driving some of these initiatives saying, like, let’s look for opportunities as well. Was it hard to sell that to the IC and the board? Because it was a very, sort of nerve wracking time.
Linda Cunningham 27:41
I think Kristian was had the support of the board. This is, this is a numbers game. You know, you need to understand your members. You need to understand that book, but it was very important that you don’t forget what you’re here for. And I think, you know, there was very much that steady state, obviously the returns in March, April, May, etc. Thing. If you look at the numbers and you see there is the recovery, you’ll see that it was it happened quite quickly. And if you were too nervous, you would have missed out. So it is about being confident. Kristian and Brett were very good in terms of driving that staying invested.
Wouter Klijn 28:29
And you mentioned during the time there were just certain assets that needed to be built. Can you tell me a little bit about your approach to funding construction projects?
Linda Cunningham 28:38
Sure. And look, there were some of the other fun things I’ve, I’ve done across my career in banking. You know, in the early days, I ended up in the property team in Sydney, which was quite interesting, and then down here in Victoria as well. So I just as background, I’ve been involved in things like construction of crown in Melbourne, 333, Collins Street, Dockland stadium, Park, Hyatt. So I’ve always loved the construction side of things. And I think that was another that was another carrot for me in terms of joining sea bus, the fact that I knew that Brett was very keen that we do participate in the construction space, but I’m an old banker, so we are quite conservative in terms of how we approach construction. And here at the at present, we’ve got sort of three construction deals on our book. One of those is a residential construction and you that has pre sales in place that that cover our debt. So we will do some construct residential construction deals that don’t have 100% pre sale coverage. And that’s a really that’s a real testament to the the internal knowledge that we have within. Sea bus, because you need to have confidence that you can get this building, that this building can be built, and that people will buy the product. And so it’s really important from the internal conversations we do have about any of our construction deals, but just coming back, the other two deals that we’ve got are actually industrial properties, and they’re both ones which are operating businesses running really well, and they’re expanding, and so they’ve actually got pre commitments in place to take that additional space. So it’s construction that is not speculative, that that’s not where we’re playing, but it’s a good, you know, component of of our book, we’ve done construction for social and affordable housing. And that was another one that was done in the in the depths of covid. Again, looking at it, we actually had a takeout from our community housing provider to buy that on completion. So we knew that if we could get that finished, we actually had the takeout from community housing provider who had their debt locked in to be able to buy it.
Wouter Klijn 31:10
Yeah, yeah. And that’s how you manage your risk. So you have this internal portfolio, but you also make still use of external fund managers. How do you think about that mix? Is there sort of an optimal balance between internal and external investments from a debt side of things?
Linda Cunningham 31:29
I mean, the overriding statement is, is what’s in the best interest for the members? So we do have a longer term manager, weight, which sees that our internal strategy growing over time, but that’s always asterisked with if we can see appropriate opportunities for that portfolio. So we do think having the mix of internal management and world class external managers is ideal. It enables us that flexibility to make sure we’re getting the right return for risk all time. So we’re seeing what our external managers are doing. We’re talking to our external managers on a regular basis, and some here in Australia, some are offshore. So we actually have that global approach to how we’re investing. So if we were looking at transactions here in Australia, and we’re saying that just doesn’t make sense, we can’t see things that make sense. There’s no pressure for us to write a deal. We can allocate the money to managers. And I think that’s, you know, that I see that as really is the sweet spot. There is no it is not that we have to internalisation for the sake of internalisation. It is about getting that right return for the members, but, but I’ll say, we do. We do benchmark ourselves. So in other words, we run, what are the costs of running an internal strategy compared to what it costs us to get external managers in place? And you know, we’re always conscious of of that. We talked about some private credit managers before we get a lot of people who would like us to, you know, allocate to them rather than having an internal strategy. And we’ve seen some really competitive pricing. But it’s interesting, when you read the the asset report in terms of fee structures and where things get hidden and all of those, we’re very much about transparency. I mean, none of the managers in our credit space are on any form of performance fees or anything like that. It is give us your rate, and we will pay that all of the income on our loans come to the members. There is no, there’s, there’s nothing funny, and we’ve seen some, let’s call it, funky structures offered to us, which we sit there and go, This doesn’t fit in with RG, 97
Wouter Klijn 34:19
What sort of funky structures?
Speaker 1 34:22
Oh, you know, where they’ll take part of the upfront fee, or they will offset fees with other charges and other things that come in place. Yep, that’s not we’re not comfortable with that. And and the other thing you have to think of with, with, with some of those is we might pay a bit more to somebody else, but I’d prefer to be paying a bit more to have confidence in a manager than other managers, who won’t charge you very much, but they give you rubbish. You know, that’s an easy. easy decision.
Wouter Klijn 35:01
Rubbish is still rubbish.
Speaker 1 35:03
Rubbish is still rubbish. And the cost of buying that rubbish and having it in your portfolio, you know, the losses that you might incur, in no way can you justify having a slightly cheaper fee but picking up rubbish?
Wouter Klijn 35:19
Yeah, no, for sure. So let’s delve a little bit deeper into sort of the private credit sector, because it has been very popular. We’ve just seen the release of that ASIC report that highlighted some questionable practices. I mean, overall, they were relatively positive, but I did see some issues there, and often heard criticism or comment around profit credit is, well, it’s still relatively new. It hasn’t gone through a business cycle, and you don’t know, you know what the level of defaults will be. And I think when we sort of prepared for this podcast, you said it’s not that new at all. It’s been around forever. Can you explain it a little bit?
Linda Cunningham 35:58
Absolutely, we’re already talking about a pyramid building society and those in estate mortgages. If you think about it, there’s been debenture funds or mortgage funds operating in Australia for at least 30 years. I mean, even if you you look at IFM who’ve got their specialised credit funds. I mean, that’s been operating since 1999 that has been playing in a mix of public and private credit for a very long period of time. You’re talking about 26 years now that that’s actually been operating. So I think private credit has always been around, and what’s my definition of private credit, very similar to assets, and it’s basically anything that’s not done within a bank, and I actually think there’s a need for funding outside of the banks. And you think about why this occurred, and you think about the asset report also talks about Australia having about 50% of the private credit is real estate based. And I think that does come back to you know, the difference between how a housing loan on a bank balance sheet, what capital you require for a housing loan compared to what capital you require to do, you know, commercial property loan. Yeah, I think that has been a big driver in provide or in in there been an appetite for for people outside of banks to provide the funding. And I think that’s a good thing for the market. It’s a good thing for the stability of the banks and so on. It is just probably what’s become more of focus is, where are the where it’s the private credit sector itself getting its money from. There’s obviously institutional investors
Wouter Klijn 38:01
From you?
Speaker 1 38:07
And look, we prefer, we prefer in in that space to choose our own, be selective, and tune us our own assets, and do it directly when we’re not interested in having a manager really in that space for us, but I think it has been around for a long time. But yes, there’s not been as much oversight of the sector. There hasn’t needed to be the GSC, there was quite a lot. I mean, you had funds at that particular time, you know lm finance up in Queensland. Always think of the Queensland gold chains, white shoe brigade. If you look at LM finance, you, you look at Storm Financial, you look at any of those names, you, you’ll see these same patterns repeating themselves.
Wouter Klijn 39:01
Yeah, I remember Storm Financial was, I think we wrote about that for years. That was, that was a big one. But it also at this time. I think part of the reason why the report also came out is what we talked about earlier. There is now participation from retail investors into the private credit space, and so new vehicles have been constructed that live on advisor platforms, and they tend to have daily liquidity and back to the old mortgage funds like there’s only a couple of ways to provide that liquidity, and it doesn’t come from the underlying assets. So do you worry about seeing sort of this increased retail participation in the private credit space.
Linda Cunningham 39:45
So I guess where I sit. I’m I am slightly like removed from it. I I worry about the retail investors that mentioned the days with AXA. But it probably even goes back to my days been on the counter and seeing people come in every second Thursday to cash their pension checks. You There are a lot of people who are relying upon income and want their return. And I just, I worry about that side of things. I worry about the flow, potential flow on effects. You know, there are good lenders out there, but it is about, you know, is the product matching it? Are the way they funding it appropriate? Yeah, that would be sort of that biggest question
Wouter Klijn 40:31
What are some of the other concerns you have about private credit funds. I understand that some of them might have some leverage in them?
Linda Cunningham 40:39
That’s a good question. That is certainly a trend that we are seeing. There is a lot of debt that’s been put into these funds, also known as a NAV loan. On the positive side, it can help the manager to smooth the cash flows and possibly boost the returns to in the investors. But on the downside, that debt ranks in front of the investor. So I worry that’s not fully understood by wholesale investors. There could also be some risks for institutional investors who support a manager that offers a wholesale product. In this scenario, you’re likely to see loans being shared across the platform, across the wholesale and the institutional investors. So how are decisions being made on those underlying loans in a scenario where the fund manager is needing to get loans or part of the loan repaid as quickly as possible to meet redemptions, yet the institutional investor might have a more patient timeframe.
Where we are in the in the current environment, is often the products are not paying a lot more than, say, a term deposit or something. So people are looking at them and going, well, that’s only a little bit more. That’s obviously not much riskier. Or, you know, it must be okay. And I think that distorts the fact that some of these structures are there’s a level of fees and expenses and things like that that are coming out before the investor actually sees their return. So they’re not seeing that. In reality, say we’re getting a pass through of all of those things, their return would be a lot higher. Alternatively, and this is where the market is very, very competitive on loan transaction at the moment is, Are people pricing risk properly? And that’s, that’s where it starts impacting, say, on us and the transactions that that we’re doing, you know, at the moment, there’s a lot of competition in the in the Australian space. You’ve got foreign investors, institutional investors here. You’ve got a lot of the foreign banks here, and you’ve obviously got your private credit funds, your Australian banks. Australia’s a small market, there’s not a lot of transactions, so you are actually seeing people competing to do transactions.
Wouter Klijn 43:22
Yeah. Does that have sort of a flow-on effect, in the sense that underwriting standards might drop a little bit Martin’s coming in, does that have sort of that cascading effect?
Linda Cunningham 43:34
It absolutely does. And so that’s why, that’s where it does impact us. We do see that, you’re, we’re in syndicated deals. So we, we’re seeing who’s in those deals and who’s in those transactions. There’s been a number recently, you know, in the last few months, where, by we’ve knocked that participation in a transaction, not, you know, it’s, it’d be a good borrower, but the pricing for the way it’s been structured, and when I, when I’m in structured, the covenants that are in place looser than They should be, and that might be okay, the borrower might not do the bad, the wrong thing, but they’re very loose covenants, and the pricing is low, and we can look at that and we just say, look, thanks, we won’t participate in that transaction. So the team’s really quite disciplined. You know, we’ve got a broad group of people in that team now with broad experiences and things like that. But no one feels the pressure to they just want to do, you know, good transactions and that are appropriately priced.
Wouter Klijn 44:46
Yeah. So do you see more of that happening? Do you see more loans, where you think like: ‘I’m going to skip on this one’ ?
Linda Cunningham 44:53
Some of those are easy decisions. Where it gets where it gets harder is where Look, you’re always going to want the loan to pay you a little bit more than what it does. I mean, that’s, that’s your borrowers always want to pay less, and lenders always want to charge more. So there’s, there’s, there’s a space where that is really a clear decision. And there’s borrowers whereby you know, you’re prepared to give them a little bit of a leeway because they’re good operators and things like that. But there’s other transactions where you just say that that doesn’t make sense for for where we see that risk, or the potential risk of that transaction, we will just walk away and again, because we’re not we don’t have to play in one space. I always think back to the days when I worked in the bank, if you’re in the property section of the bank, and the bank says we’ve got enough property and not doing any more, what are you going to be doing if you’re in a credit fund and credit returns are not looking good, what are you going to do? You’ve got investors that have given you money that want to get invested. You know, it’s it’s quite challenging. It takes someone very strong who is earning their money on funds under management. Say no thanks to the funds. Whereas that’s not, that’s not a challenge that we we have at sea bus, because I can look at other I can look at credit managers and allocate to them, or I can sit down with, you know, Justin Pascoe and the asset allocation team. We can talk about credit markets generally, what we’re seeing the themes, and we just think about, well, you know, should we do we want to do, go underweight credit at this particular time. How do we want to position ourselves? You just got to maintain your discipline.
Wouter Klijn 46:45
Yeah, for sure. And you do come at it from a different angle than, I think, a fund manager as well, because you’re investing for members in sort of a context of a multi asset portfolio, and I think you’ve stipulated that the credit part of the portfolio, the fixed income part of the portfolio, it’s not a standalone option, it’s part of the multi asset portfolio. Does that make you look different at how you invest in credit and in certain transactions? With that idea that maybe more a diversification lens rather than a pure credit lens.
Linda Cunningham 47:22
Look, absolutely it is when our manager, when our members invest, majority of our members go with one of the pre mixed options. Okay, and so all of your pre mixed options, most of them, will have some exposure to credit, but as part of that overall portfolio, you know, our total credit component might be six or 7% of it, so it’s not a significant component in in the first place, they have exposure to equities, infrastructure, private markets and so on. Where, where credit does cross over is the fact that, if we are in public credit, it’s tradable. Sometimes it’s not tradable when you want it to be tradable, but, but generally it’s tradable. It’s like equities. It trades like equities, but on the private side, you have to be conscious that you’re actually using some of the funds illiquidity budget. So when we do do private credit, whether we do it in house, ourselves or via a manager, we are conscious that we are making that long term commitment. We’re allocating money to something that may not pay us back for three to five or seven years time. And so we actually treat that as an illiquid asset, so we expect it to give us a premium over a liquid asset. We also when we look at the overall sort of risk side of the fund, we do, we do take into account that is illiquid. So you always sit down with the Private Markets team. We’re having discussions all the time about how we think about our illiquid component of the portfolio. So it’s got to compete, to an extent, with other illiquid assets, whether it is the property, the infrastructure, private equity,
Wouter Klijn 49:15
yeah, yeah, that makes sense. So last question, what is on the calendar for the rest of the year? Do you have any research projects coming up? Any reviews of sectors?
Linda Cunningham 49:26
Look it’s really a business as usual time the sectors we think are well set up, and we talked before about the fixed income sector, our fixed interest sector is just govies, so that’s where we make our duration call. Our credit sector is just credit, and it is predominantly floating rate credit. But those sectors are set up well, we’re happy with the managers in it, but it’s a matter of monitoring and just and just continuing to make sure that they’re, they’re fit for purpose and set up the way that we want. On the internal side of things, we’re keen to do some more construction deals. We like to think that there’s going to be a bit more movement on in particular, residential construction over the next year or so. So there’s a focus there, and the team, obviously has been we’ve been working on the social and affordable housing side of things. We’d be keen to be involved in that space that’s been particularly challenging, but it’s a continual head down and see what we can do and see if we can make it stack up.
Wouter Klijn 50:35
Yeah, yeah. What’s the interest in affordable housing? Is that from a credit perspective, or is there that element of ESG to it
Linda Cunningham 50:44
Look, it’s predominantly from a credit perspective, but we do think about a sort of if we can make it work, it’s a win, win, win. So we need to get fundamentally returns for the members, and we think that’s why debt makes sense. We’re not sure that equity, especially in social and affordable housing, is the way that we want to play. But for debt, you can get an appropriate return for you. Or risk, we’ll look at doing it, but also the construction side of things. If we can create jobs for the members, that’s also a win. And the third point really is that societal, there is a need for some more housing across the board, but in particular in that social and affordable space. So if we can support that, we’re very keen to do.
Wouter Klijn 50:21
So, yeah, absolutely, yeah. Well, Linda, thank you very much. That was a fascinating conversation. So thank you very much for your time.
Linda Cunningham 50:29
Thank you. I appreciate the opportunity to talk to you.
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