www.ifc.org/thoughtleadership NOTE 98 • JAN 2021 Private Credit in Emerging Markets By Meera Narayanaswamy and Fedor Miryugin Private credit broadly refers to nonbank lending to firms. Since the Global Financial Crisis of 2008–2009, private credit has grown considerably. Although the phenomenon of private credit is more predominant in the United States and the United Kingdom, it is also a growing asset class in emerging markets. Private credit appeals to borrowers because of bespoke, structured solutions, longer maturities, greater flexibility, and ease of doing business. Investors also like private credit, because of its attractive risk-adjusted returns. The global economic shock resulting from the COVID-19 pandemic has seen marked changes in production and consumption patterns in the real economy, with ripple effects in credit markets. Uncertainty and increased risk aversion spiked a rush to top up liquidity—the so-called ‘dash for cash’— primarily in the bank- intermediated credit and public capital markets. Private credit is an important segment of financial markets, that has played a strong role in providing access to financing for underserved segments. With significant amounts of ‘dry powder’ (capital raised but not yet invested), private credit has a potentially important role to play in the post-pandemic recovery as a long-term partner for growth. Since the 2008 Global Financial Crisis, there has been a well- covenant-light (or ‘cov-lite’), borrower-friendly loans driven by documented surge in private credit. Private credit assets under low default rates and market competition. Cov-lite loans have management (AUM) tripled from $271 billion in 2009 to over proven beneficial for borrowers during the COVID-19 crisis $800 billion in 2019, and so-called ‘dry powder’ for private since the additional stress from managing covenants has been debt funds (i.e., cash raised by funds but not yet invested) reduced. However, it remains to be seen where and how the grew from about $102 billion in 2009 to $261 billion in market will correct during the recovery from the pandemic. 2019.1 This has been driven primarily by the prolonged low- These trends have extended to emerging markets (EM), which yield environment and low default rates, which has spurred have also seen the growth of private credit alongside a lesser demand and created additional supply of funds from investors, but still perceptible retrenchment of banks from middle-market and by the disintermediation of banking and the dislocation lending activities, as more banks in emerging markets become of traditional sources of debt which has created additional Basel III-compliant. Over the period 2009 to 2019, private demand from firms. credit fundraising in emerging markets tripled, from about There has been a similar strong shift from public markets to $2.4 billion to more than $8 billion per year.3 Investors have private market transactions in equity markets. The availability found the premium offered by private credit to be appealing of low-cost credit is also considered a primary reason for when compared to the more liquid areas of credit markets. this. Strikingly, the decline in long-term interest rates has As a result, private debt strategies in both developed markets reached the point where government yields are now negative and EM have found a place in the asset allocation of most in many countries. In November 2020, Bloomberg reported a major institutional investors. However, regulators who set staggering $17 trillion of negative interest rate debt. 2 In recent regulatory limits on exposure to different asset classes have not years, debt markets have also witnessed the steady rise of reached a common view on how to classify private debt among About the Authors Meera Narayanaswamy, Senior Operations Officer, Corporate Strategy & Partnerships, IFC. Her email is mnarayanaswamy@ifc.org. Fedor Miryugin, Operations Analyst, Corporate Strategy & Partnerships, IFC. His email is fmiryugin@ifc.org. 1 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group. A. TOTAL CREDIT TO THE NON-FINANCIAL SECTOR (NFS) TREND— BY QUARTER, 2008–2020 B. GLOBAL PRIVATE CREDIT AUM US $ Trillions % US $ Billions 250 280 800 100% Total Credit to NFS AUM % of GDP (rhs) % of GDP with PPP Ex. Rates (rhs) 260 Dry Powder 200 600 75% Other 240 150 220 Insurers 400 50% 100 Foundations/ 200 endowments 200 25% 50 180 Pension funds 0 160 0 0% 2008 2010 2012 2014 2016 2018 2020 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2018 Source: Bank for International Settlements (BIS). Source: Preqin; BIS. Note: Total credit to the non-financial sector from all sectors at market value Note: Dry Powder refers to cash raised but not yet invested. adjusted for breaks. C. EM PRIVATE CREDIT ANNUAL FUNDRAISING D. TOTAL FINANCIAL ASSETS OF BANKS VS. NBFIs IN EMs US $ Billions US $ Trillions 12 80 PC Annual Fundraising NBFIs No. of Funds Banks 10 60 8 57 6 47 40 44 4 32 31 24 26 20 19 20 2 15 16 11 0 0 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Source: EMPEA (Emerging Markets Private Equity Association). Source: FSB. Note: NBFIs correspond to MUNFIs as defined in the FSB report, and ‘Banks’—to the difference between MUNFIs and total financial assets in EM. FIGURE 1 Debt Landscape Note: NBFIs = Nonbank Financial Institutions; MUNFIs = Monitoring Universe of Non-Bank Financial Intermediations; EM = emerging markets. the different asset classes that they regulate, and to which have been made. To date agreements on relief have been ‘bucket’ private debt gets allocated remains a debated point. reached in all cases where debt is considered sustainable. Traditionally, mezzanine and distressed debt are allocated from With the heightened awareness about the urgency of climate an alternatives bucket, whereas senior lending can vary. change, ESG (environmental, social, and governance) and In some emerging markets, yield-seeking has driven debt-to- responsible investing are becoming more popular and even GDP ratios to perilous levels, a situation that has become the required in capital markets transactions. This has resulted in subject of hot debate. Total EM external debt was estimated rapid growth of thematic bonds, especially climate-related to exceed $71 trillion in 2019,4 of which around $3.2 trillion bonds (green bonds, blue bonds, forest bonds, social and was owed by ‘frontier’ markets. 5 However, a rising proportion sustainability bonds—see EM Compass Note 89 for more of external debt is in private hands rather than in the official on this topic6). In emerging markets, a number of banks and corporates have issued climate- and sustainability-related sector due to the growing participation of private investors in bonds, which bodes well for the post-COVID-19 recovery. a multitude of bond funds. The onset of the COVID-19 crisis has aggravated this already Dimensions in Private Credit difficult situation. While the World Bank and the International Private credit refers to the extension of loans directly to firms Monetary Fund (IMF) led a G20 moratorium on official by nonbank actors. Typically, these are institutional investors, bilateral payments that started in April 2020 and will last at including insurance companies, pension funds, hedge funds, least until June 2021 (the Debt Service Suspension Initiative or foundations and endowments, sovereign wealth funds, and ‘DSSI’), private creditors are taking a case-by-case approach other fund managers. In the asset management world, private in situations where formal requests by DSSI-eligible countries credit is a catchall label for a smorgasbord of investment 2 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group. strategies aimed at the debt component of the capital structure as bonds and debt securities and secondaries. An instrument of corporate borrowers. Thus, it includes all debt obligations in that has become popular in the middle-market segment in various formats issued by firms in private markets (as opposed the United States and Europe is the unitranche loan, which to public markets). Private credit is an information-intensive combines senior and subordinated financings into a single debt area, and investors can gain access either directly if they have instrument with a blended rate for the borrower. At their core, the in-house skills, or more commonly, through asset managers. these strategies aim to supplant or supplement bank financing to private firms at every level of the capital debt structure. Private credit investment strategies usually encompass a Each of these strategies has a very different risk-return profile, number of specialized strategies, with products ranging and it is critical that investors pay close attention to the from collateralized senior lending at one end of the scale to investment strategy and the market opportunity. The Global special situations and distressed debt at the other end, and Impact Investing Network (GIIN) reports that private debt or with a gamut of products such as mezzanine loan funds, fixed income instruments (rather than equity) comprise one of opportunistic credit funds, and collateralized loan obligations the largest asset classes in impact investing.7 (CLOs) in between (Box 1). Some private credit strategies may also have an allocation for public markets instruments such The EM private credit landscape typically includes senior and mezzanine lending, structured equity, distressed debt, and special situations, although there may be some overlap in these Fund Managers Specialize in Specific BOX 1 investment strategies. Market Segments Attractiveness of private credit: Private credit can offer an Capital preservation strategies: attractive ‘Goldilocks’ risk-return profile—not too risky but also Senior lending (levered/unlevered) specializes in senior not too bland. Broadly speaking, returns can range from 200 to debt—i.e., first-ranking and often secured loans—and 300 basis points (bps)8 over traditional fixed income instruments is used to finance buyout transactions and growth (bonds) at the senior lending end of the spectrum, to over 400– funding. Returns are generated almost exclusively by interest payments. 800 bps at the riskier end.9 Also, private credit’s low correlation Subordinated capital (mezzanine debt, capital with traditional asset classes such as public market fixed income, appreciation) ) is an intermediate form of financing and equity can provide positive diversification for investor between debt and equity, and is used mainly for portfolios. In senior lending strategies, investments are often buyouts and growth finance, and is subordinate to collateralized and backed by the real assets of borrowers. Since bank debt. Returns are made up of several components, the industry has matured, private credit now has knowledgeable including current and final interest payments, as well fund managers, as well as observable and verifiable track as warrants for shares in the company being acquired, which are known as equity kickers. records and performance, making it easier for investors to select managers in this asset class. Return-enhancing strategies: Although private credit is a more nascent asset class Structured equity/subordinated capital is invested in par debt or equity-like instruments and often functions as in emerging markets, it may also offer some downside a replacement for private equity. protections that have become less available in developed Distressed credit primarily involves buying deeply markets. Creditor rights’ regimes, collateral systems, discounted debt securities in the secondary market, enforcement, and insolvency law frameworks have been focusing on acquiring sound assets in situations where improving in EM, thereby also providing an impetus for the companies are in financial difficulties. growth and appeal of private credit.10 Opportunistic and niche strategies: Finally, in emerging markets, the governance of these funds and Credit opportunities invest across a wide variety of resulting investor protections follows very different regimes. financing structures and situations. Alongside complex In many emerging markets, and especially in Latin America, refinancing of companies that are cut off from capital private credit is offered by means of specialized vehicles —such markets for various reasons, the funds also specialize in secondary transactions. as the FIDCs11 in Brazil, CKDs12 in Mexico, and FCPs13 in Colombia and Peru—which are onshore regulated structures Specialty finance pursues niche strategies such as nonperforming loans in one small industry, e.g., with built-in investor protections. FinTechs are also emerging aviation finance, pharmaceuticals, music and that use private credit fund structures to finance their lending healthcare royalties, trade finance, rediscount lenders, business—for example, the FIDCs in Brazil. and catastrophe bonds. Risks: In addition to sharing the common ailment of Source: Cambridge Associates. 2017. “Private Credit Strategies: An Introduction.” all private markets—that of illiquidity—private credit assets have a special risk profile worth noting. In its more 3 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group. standard forms, by definition, private lending has a cap on investments in private credit have been in Latin America. the potential upside that can be earned from investments IFC is also a leading investor in small and medium (although it also has more downside mitigation than is the enterprise (SME) funds that, for the most part, invest in case with equity). Riskier strategies at the hybrid end of the self-liquidating instruments. SME funds with this sort of spectrum—such as mezzanine lending, distressed debt, and investment strategy are also a type of private credit strategy. special opportunities—however, can compete favorably with In 2013, IFC created the Managed Co-lending Portfolio the return expectations of alternatives. Next, private credit Program (MCPP), which creates diversified portfolios of EM strategies are quite susceptible to defaults. Analogous to private sector loans, offering investors the opportunity to get O-ring effects, even one default can severely hamper a private access or increase exposure to EM private debt opportunities. credit fund’s overall returns. Default rates can be generally The MCPP platform allows investors to co-invest with gleaned from indexes publishing data on corporate defaults IFC on commercial terms and leverage IFC’s origination for debt markets segments such as the S&P/LSTA and others capacity and market knowledge. As a result, IFC can provide in the United States. It should be noted though, that in larger financing packages and increase the pool of financing comparison to public debt, private debt has a much higher available to achieve development goals. chance of recoveries in the event of default, depending on the type of strategy. In Latin America, favorable regulatory frameworks and high interest rates have spurred the growth of private credit. In the In addition, private credit may run a higher risk of adverse last few years, IFC has made some notable anchor investments selection. Distinct from equity, debt is already offered by in the region. These include: in 2015, in Fondo de Inversion many providers in the banking world, as well as in public HMC Capital High Yield Peru —the first high-yield structure capital markets. Accordingly, companies that opt for private in Peru that invests in bonds issued by SMEs on the Peruvian lending instead of these alternatives could be considered a Mercado Alternativo de Valores (MAV), an alternatives riskier proposition. However, it should be noted that private exchange; in 2016, in Fondo de Inversion FCP 4G Credicorp credit usually targets a different segment from bank lending, given its ability to take more risk. Sura —the first infrastructure debt fund in Colombia that provides debt financing to 4G15 road projects; in 2016, Further mitigating this potential risk is the fact that even in Vector Mezzanine in Mexico; and, in 2018, in Patria though there are more debt providers, the universe of potential Credito Estruturado Fundo de Investimentos em Direitos borrowers—companies ready to take on debt—is also higher, Creditorios —a private lending FIDC in Brazil that lends to relative to equity. Debt, being non-dilutive and relatively mid-sized Brazilian companies. hands-off in comparison to equity, may thus find more takers in the market for financing. Earlier investments include Credit Suisse Mexico Credit Opportunities Trust in 2014 in Mexico that was issued in IFC’s Experience in Private Credit an innovative special type of security (CKDs) to finance IFC is a leading financier in emerging markets, both in Mexican SMEs; Gulf Capital Credit Opportunities in MENA private credit and private equity (PE) on its own account. in 2013; Central American Mezzanine Investment Fund IFC is also a leading investor in specialized funds that pool (CAMIF) I and II in 2008 and 2014, respectively; and Darby capital to finance EM companies, projects, and financial Latin America Mezzanine fund in 1999. While this is not institutions. This approach of providing financing through IFC’s comprehensive EM portfolio in private credit, it is a intermediaries has dual benefits: helping to grow the EM representative sample.16 asset management industry while making finance available On the public debt side, IFC has invested in a few bond funds, for growth. But while IFC is a leading investor in EM private the most recent examples being the HSBC Real Economy equity funds, it has invested in few private credit strategies/ Green Investment Opportunity GEM Bond Fund (REGIO), structures, primarily since IFC is a significant EM lender in and the Green Bond Cornerstone Fund (GBCF), which invests its own right and private credit is a nascent asset class in EM. in EM green bonds issued by financial institutions. It is important to note that the penetration of private credit Terms and Structuring in Private Credit Funds in emerging markets varies significantly by region. Asia has had the largest share of fundraising and investment A fund structure that is often used for private credit mirrors the opportunities, followed by Latin America. However, in standard private equity model, or a close derivative of it. While Africa, the Middle East and North Africa region (MENA), the most salient driver of the terms and structure of credit funds as well as emerging Europe, the opportunities have been is the profile of their returns and fund economics, in general, more limited.14 With the exception of one investment the basic principles of a PE fund structure can be applied to the in the Middle East in mezzanine lending, most of IFC’s more illiquid end of debt funds. 4 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group. It is worth mentioning some broadly similar aspects of the Another way to structure a fund to put more capital to work two private investment strategies (private lending and private to improve returns is tranching. Tranching a vehicle to include equity). Both rely on financing private companies, though at different risk/return slices works well to accommodate different different levels of the capital structure. Both also rely on the investor risk appetites. Typically, private credit funds tend to be investment judgment and selection expertise of specialized commingled funds, mostly following the PE structure, where teams of asset managers or servicers, though credit expertise all investors are pari passu (or, on equal footing, with equal and equity selection are vast areas of knowledge unto access to assets of the fund). However, tranching can benefit themselves. Both need an exit, though in debt structures, investors and managers by increasing assets under management refinancing or using self-liquidating instruments can provide at the cost of slightly more complexity in fund terms, and a greater assurance of achieving an exit, which in private equity slightly greater challenge in fundraising. Given the fixed returns is usually more complex and highly dependent on readying generated by the portfolio, tranching can also enhance the investee companies for a potential listing, a secondary buy-out, returns of the equity tranche. or some type of merger or acquisition event. IFC’s recent investment in Patria Credito Estruturado, a However, the similarities end there. The commercial characteristics BRL-denominated private credit fund managed by Patria of private lending and private equity are quite different. But Investimentos (a leading alternatives fund manager in Brazil), terms can also be adjusted to accommodate for these differences. is a good example of a structured private credit vehicle. This Debt strategies generate interest payments and coupon income fund vehicle is a closed-ended, structured credit fund that is and, therefore, tend to have more (and earlier) distributions than locally incorporated as an FIDC, with the primary objective PE funds. Using the same reasoning, they also typically have of providing senior secured lending to medium-sized private shorter investment periods and lives. The fee structure in most companies in Brazil. debt funds tends to be primarily based on invested capital, and The fund raised a total of BRL1.2 billion with an innovative often on net asset value, rather than on committed capital. structure of three tranches of senior, mezzanine, and junior The most critical difference in private credit, primarily in quotas—each with a different risk/return profile to attract senior lending strategies, is the (often) capped upside, and the investors with varying risk appetites. Senior quotas for up to concomitant vulnerability to defaults on the downside. Whereas BRL840 million had a minimum local rating of brAA- by Fitch in PE, one bad investment has the potential to be recouped via Ratings, and primarily target pension funds. Junior quotas for greater returns on other investments—since both the timing up to BRL240 million were not rated and target local family and method of exits are discretionary—in private debt, this offices as well as international institutional investors. Credit potential is severely limited. enhancement for the senior quotas is provided by the junior and Good origination and underwriting vastly mitigate the risk of mezzanine quota tranches so that senior quotas can achieve a a potential default and very often in private credit strategies, credit rating that would qualify them for purchase by domestic the excess spread (and the degree of collateralization in senior institutional investors. lending) should be adequate to cover expected losses. In IFC was an anchor investor in this vehicle, and the first foreign addition to these mitigants, recycling provisions (which deal investor in the junior quotas of up to $10 million (in BRL with how/whether to recycle distributions from a fund) can equivalent). Since the amount of the junior quota tranche provides also be adjusted to match the characteristics of private credit. a subordinated, loss-absorption feature for the senior quota, IFC’s Typically, these provisions (similar to re-investment in the PE proposed anchor investment in the junior quota helped launch the context) tend to be quite generous and allow the recycling of all fund. Such vehicles are not the norm in other jurisdictions where proceeds or return of principal, effectively extending the period more traditional commingled structures are used. during which investments can be made. Depending on the market opportunity and investor appetite, In addition, since distributions in debt funds tend to be more open-ended/evergreen structures and segregated mandates frequent, and investments have shorter holding horizons, this could also be alternative solutions. Open-ended funds can also aids capital call logistics and fund accounting. give managers more investment latitude, with the ability to The benefit afforded by pooling capital in a fund structure is recycle capital indefinitely, if investors do not redeem. not as great in a credit fund as in a private equity fund. The recycling provision can mitigate this by putting more capital to Fund Ratings work. For all the reasons discussed previously—including the A relatively common practice in some EM jurisdictions is capped upside and the vulnerability to defaults—the investment the use of fund ratings. The portfolio allocation of all major return per dollar is likely to be lower in the average debt fund private lenders such as pension funds, insurance companies, compared to a private equity fund. and investment funds is dependent on external credit ratings. 5 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group. These can be self-imposed, ratings-based investment strategies. A further question is the mobilization of other international However, in many emerging markets they are more often in investors in local currency tranches. Although not in common regulatory frameworks that use rating grades as a reference for use, credit-linked notes and participation agreements are establishing quantitative limits and capital requirements. potentially innovative ways of attracting dollar investors into local currency-denominated funds. In several countries in Latin America, before fundraising,17 funds are able, and often required, to get a shadow rating that Domicile is based on structured finance ratings criteria. This allows The prevailing legal and regulatory framework for creditor the fund to be marketed to insurance companies and pension rights and investor protections is a critical factor in the funds that have capital requirements and therefore can only assessment of opportunities. In emerging markets, private invest in rated products. credit has spawned a number of very experienced and capable A rating provides a way of addressing this concern. Shadow local managers. In Latin America, where there is a strong ratings are ‘indicative’ and potentially widen the investor pool pool of domestic pension investors, funds tend to be primarily available to the fund. In addition, they also provide the discipline denominated in local currencies, and locally managed and of stress testing the fund model for potential defaults. Since a domiciled. In other parts of the world that have a growing higher credit rating would require adequate subordination, or domestic investor base, this phenomenon is becoming credit enhancement, the structure of these vehicles can be more increasingly common. In India and China, a dual onshore/ complex than a commingled structure. offshore co-investing structure to accommodate dollar and local IFC typically plays both roles—both anchor investor and/or currency investors is quite common. credit enhancer—where providing a partial credit guarantee An interesting dimension of IFC’s investments in Latin can significantly move up the senior tranche rating so it American private credit vehicles is that they are locally becomes eligible for investors with ratings requirements. In the domiciled and regulated, and quite distinct from the offshore, case of Patria Credito Estruturado, for example, the senior domiciled PE model. Offshore funds domiciled in tax tranche received its rating of brAA- from Fitch Ratings, which neutral jurisdictions that are selected based on favorable tax, was based in part on the level of the junior tranche, and the legal, and regulatory environments typically have strong later introduction of a mezzanine tranche. contractual agreements that aim to align the interests of investors and managers. Typically, with onshore funds, the Local Currency local Banking Superintendent and the local Securities and Currency risk continues to be a substantial concern for foreign Exchange Commission (or equivalent regulator) provide investors in all EM investing, and especially in private credit, oversight for these asset management vehicles, with strong given its return profile. Typically, the use of natural hedges, good investor protections. Brazilian FIDCs, Mexican CKDs, structuring, and a good macro strategy can help to protect net Peruvian funds, and Colombian FCPs are all regulated returns from currency fluctuations, in addition to using hedging onshore, with fund formation and fund management and solutions, where available, and depending on the cost of the hedge. compliance adhering to these rules. Often, IFC’s investments in these vehicles (especially in Latin Conclusion America) have been in local currency, as the funds have been denominated in local currency. For an international investor, this While private credit has not been the first port of call for means an additional dimension of structuring. IFC uses a variety corporate treasurers during the peak of the COVID-19 of methods to access local currency, from swap markets to crisis, it has enormous potential to play a meaningful role in issuing local currency bonds. In some structures such as Patria supporting the post-crisis recovery. Private credit is a distinct Credito Estruturado, IFC has invested in the senior tranche in asset class that can play the role of a long-term growth partner BRL, which is fully hedged, while it is exposed in the equity for portfolio companies, as it is adaptable in providing add-on tranche. IFC policy requires market risk to be mandatorily financing and working capital, as well as handling distressed hedged on all senior instruments and, with discretion, on situations. In emerging markets, where access to finance is a subordinated instruments and equity. In Colombia, in Fondo de particular challenge to economic development and growth, Inversion FCP 4G Credicorp Sura, IFC was able to provide 20- private credit with its non-dilutive characteristic and its more year peso financing for an infrastructure debt vehicle through flexible and bespoke solutions can play a very important role. dynamic hedging, or rolling over peso-dollar hedges. In HMC During the initial stages of COVID-19 recovery, banks will High Yield Peru, which had a 60:40, nuevos soles-to-U.S. dollar likely focus more on restructuring their portfolios rather than denomination, IFC invested in dollars, and the dollar equivalent extending new credit as they deal with workouts in tourism, of the nuevos soles. retail, commercial real estate, airlines, and infrastructure— 6 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group. the sectors most impacted by the pandemic. Thus, nonbank Capital, Lima, Peru; Mario Dib, Sumatoria, Bogota, Columbia; finance institutions and private credit will likely be able Jeremy Pickles, Partner, Hogan Lovells, London, UK; and the to provide more dynamic and sophisticated products to following IFC colleagues: Xavier Jordan, Chief Investment borrowers, as well as offer investors much better returns than Officer, Financial Institutions Group, IFC; Matthew Saal, bank deposit rates. The post-COVID world will also likely see Principal Industry Specialist, Financial Institutions Group, fixed income transformed with FinTech, private credit, and IFC; Jacqueline Irving, Senior Sector Economist, Sector corporate bond markets. Economics and Development Impact – Financial Institutions Group, Economics and Private Sector Economics, IFC; Juliette The COVID-19 crisis has seen a massive rush to the bond D’Hollander, Senior Counsel, Legal – Treasury, Legal, IFC; markets and banks to top up liquidity. As the pandemic’s Gordon Myers, Chief Counsel, Technology and Private Equity, recovery phase gets fully under way, important distinctions Legal and Compliance Risk, IFC; JR Rao, Senior Advisor to will have to be made between the solvency and liquidity of the Vice President, Risk and Finance, IFC; Sebastiano Bottio, borrowers, in addition to the better targeting of fiscal stimulus Principal Financial Officer, and Jose Carlos Martin Wong toward affected industry segments. Davila, Senior Financial Officer, both Client Solutions – Latin America and the Caribbean, Treasury, IFC; Charles Blitzer, As traditional banks become more regulated, and with Consultant, Digital Finance – Advisory Services, Financial technology-enabled financial services on the rise, markets Institutions Group, IFC; Yasmin Saadat, Consultant; and will continue to find other avenues for capital intermediation. Thomas Rehermann, Senior Economist, Thought Leadership, On the positive side, companies and institutions that require Economics and Private Sector Development, IFC for their capital to grow, including SMEs, can diversify their sources of review and suggestions. borrowing with an expanding universe of credit providers. Please see the following additional reports and EM Even as private credit may be deemed ‘shadow banking’ by Compass Notes about responses to COVID-19 and about regulators, as the IMF notes, its activities are well within reaching unserved and underserved populations in the reach of regulatory control and are often less of a emerging markets: Artificial Intelligence in Emerging Markets— problem than feared.18 Adequate buy-side protections are Opportunities, Trends, and Emerging Business Models (report, critical, whether they take the form of onshore regulated September 2020); Reinventing Business Through Disruptive environments, such as those in many Latin American Technologies—Sector Trends and Investment Opportunities countries, or as strong covenants in investor-manager legal for Firms in Emerging Markets (report, March 2019); Social agreements. The World Bank Group has long promoted capital Bonds Can Help Mitigate the Economic and Social Effects of the markets alternatives for SME financing, and private credit, COVID-19 Crisis (Note 89, August 2020); Artificial Intelligence with its many sub-segments, can be one important solution. Innovation in Financial Services (Note 85, June 2020); Leveraging Inclusive Businesses Models to Support the Base of the Pyramid ACKNOWLEDGEMENTS during COVID-19 (Note 84, May 2020); What COVID-19 Means The authors would like to thank Alexandre Coutinho, Patria for Digital Infrastructure in Emerging Markets (Note 83, May Investimentos, Sao Paulo, Brazil; Hubertus van der Vaart, 2020); Digital Financial Services: Challenges and Opportunities for SEAF, Washington, DC, United States; Dan Dancourt, HMC Emerging Market Banks (Note 42, August 2017). 1 Preqin Ltd. 2019. 14 EMPEA. 2019. “Year-End 2019 Global Private Capital Industry Data & Statistics.” 2 Mullen, Cormac, and John Ainger. 2020. “World’s Negative-Yield Debt Pile Has Just Hit a 15 The ‘4G’ or ‘fourth generation’ program refers to the Colombian government’s ambitious New Record.” Bloomberg News. infrastructure initiative which includes 32 projects to build some 8,000 kilometers of 3 EMPEA. 2019. “Year-End 2019 Global Private Capital Industry Data & Statistics.” roads. 4 Institute of International Finance. 2020. Global Debt Monitor: “COVID-19 Lights a Fuse.” 16 See for more details about some of the mentioned examples: IFC. 2015. “IFC Invests in 5 Institute of International Finance. 2020. Frontier markets Debt Monitor: “Rising debt and New HMC Fund to Boost Peru’s Capital Markets,” March 2, 2015. https://ifcext.ifc.org/ climate risk.” IFCExt/pressroom/IFCPressRoom.nsf/0/A7D73533BB4FCFE885257DFC005A2F63; see also BNDES. 2018. “BNDES, IFC and IDB Invest Form an Investment Fund 6 See Peeters, Sophie, Maud Schmitt, and Ariane Volk. 2020. “Social Bonds Can Help Worth R$ 1.2 billion,” Oct 15, 2018. https://www.bndes.gov.br/SiteBNDES/bndes/ Mitigate the Economic and Social Effects of the COVID-19 Crisis.” EM Compass Note 89, bndes_en/Institucional/Press/Noticias/2018/20181005_bndes_ifc_bid.html; IFC, August 2020. IFC. 2013. “IFC and Gulf Capital Sign Investment Agreement to Boost Access to 7 The GIIN & Symbiotics. 2018. “The Financial Performance of Impact Investing through Finance,” April 1, 2013. https://ifcext.ifc.org/ifcext/pressroom/IFCPressRoom. Private Debt.” See also: IFC. 2020. “Growing Impact – New Insights into the Practice of nsf/0/3E55C78C02C5B58F85257B4000356675 Impact Investing,” Chapter 1: The Size of the Impact Investment Market, 2019, pp. 1-13. 17 S & P Global Ratings. 2017. “Fund Credit Quality Ratings Methodology,” June 2017; 8 One basis point is equal to 1/100 of 1%. see also S & P Global Ratings. 2017. “Webcast on the Updated Methodologies for 9 Industry sources. Fund Credit Quality and Volatility Ratings (FCQR & FVR),” June 26, 2017. https:// 10 World Bank. 2015. “Principles for Effective Insolvency and Creditor/Debt or Regimes.” www.spratings.com/documents/20184/908539/US_FI_Webcast_17JUN_ FCQRslides/6af76588-c7a2-48cc-bb76-74e6cba54f4d 11 Fundo de Investimentos em Direitos Creditórios – a type of fixed-income instrument. 18 Claessens, Stijn, and Lev Ratnowski. 2014. “What is Shadow Banking?” International 12 Los Certificados de Capital de Desarrollo – Certificates of Capital Development. Monetary Fund. Washington, DC. 13 Fondos de Capital Privado = private capital funds. 7 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group. SOURCES ADM Capital. 2016. “The Concealed Risks in Private Credit Investing.” https://www.admcapital.com/the-concealed-risks-in-private-credit- investing/ Aramonte, Sirio. 2020. “Private Credit: Recent Development and Long-term Trends.” Bank for International Settlements (BIS). https:// www.bis.org/publ/qtrpdf/r_qt2003v.htm Ayub, Ainun. 2019. “The Art of Setting Up an Alternative Debt Fund.” Brown Brothers Harriman. April 8, 2019. https://www.bbh.com/en-us/ insights/the-art-of-setting-up-an-alternative-debt-fund-21122 Bain Credit Capital. 2019. “Credit Market Insights.” https://www.baincapitalcredit.com/sites/baincapitalcredit.com/files/Credit_Market_ Insights-Implications_of_Growth_in_Cov-Lite_Loans_060419.pdf Cambridge Associates. 2017. “Private Credit Strategies: An Introduction.” September 2017. https://www.cambridgeassociates.com/insight/ private-credit-strategies-introduction/ Çelik, S., G. Demirtas and M. Isaksson. 2020. “Corporate Bond Market Trends, Emerging Risks and Monetary Policy.” OECD Capital Market Series, Paris. www.oecd.org/corporate/Corporate-Bond-Market-Trends-Emerging-Risks-and-Monetary-Policy.htm Citi. 2013. “The Credit Fund Opportunity: How Are Fund Managers Navigating the New Non-Bank Lending Landscape in Europe?” May 1, 2013. https://www.businesswire.com/news/home/20130501005860/en/Citi-The-Credit-Fund-Opportunity-How-Are-Fund-Managers- Navigating-the-New-Non-Bank-Lending-Landscape-in-Europe Citi. 2018. “Outlook 2018: Findings & Opportunities.” https://www.privatebank.citibank.com/ivc/docs/Findings_opportunities_summary_ publication.pdf Claessens, Stijn, Zoltan Pozsar, Lev Ratnowski, and Manmohan Singh. 2012. “Shadow Banking: Economics and Policy.” Staff Discussion Note. IMF. December 4, 2012. https://www.imf.org/external/pubs/ft/sdn/2012/sdn1212.pdf Claessens, Stijn, and Lev Ratnowski. 2014. “What is Shadow Banking?” Working Paper 14/25. IMF. https://www.imf.org/external/pubs/ft/ wp/2014/wp1425.pdf Dechert. 2018. “Financing the Economy: The Role of Private Credit Managers in Supporting Economic Growth.” https://www.dechert.com/ knowledge/publication/2018/11/financing-the-economy-2018.html Dechert. 2019. “Financing the Economy: The Future of Private Credit.” https://www.dechert.com/knowledge/publication/2019/11/ financing-the-economy--the-future-of-private-credit.html EMPEA. 2019. “Private Credit Solutions: A Closer Look at the Opportunity in Emerging Markets.” EMPEA. 2019. “Year-End 2019 Global Private Capital Industry Data & Statistics.” Also: Flanagan, Alan and Robert Wagstaff. 2018. “Private Credit: The Rise of an Asset Class.” BNY Mellon; FSB. 2019. “Global Monitoring Report on Non-Bank Financial Intermediation 2019.” February 4, 2019. Guély, Paul-Noël. 2019. “The Expansion of Private Markets Is Irreversible.” Forbes. July 22, 2019. https://www.forbes.com/sites/ paulnoelguely/2019/07/22/the-expansion-of-private-markets-is-irreversible/?sh=2539d06b1780 Institute of International Finance. 2020. Global Debt Monitor: “COVID-19 Lights a Fuse.” https://www.iif.com/Portals/0/Files/content/ Research/Global%20Debt%20Monitor_April2020.pdf Institute of International Finance. 2020. Frontier markets Debt Monitor: “Rising debt and climate risk.” https://www.iif.com/Portals/0/ Files/content/Research/02_19_2020_fmdebt.pdf Jensen, Niels C. 2018. “Private Credit Demystified.” September 2018. https://www.advisorperspectives.com/commentaries/2018/09/04/ private-credit-demystified.pdf Kodres. Laura E. 2013. “What is Shadow Banking?” Finance and Development. IMF. June 2013. https://www.imf.org/external/pubs/ft/ fandd/2013/06/basics.htm Kodres, Laura E. 2017. “Shadow Banks: Out of the Eyes of Regulators.” Finance and Development. IMF. November 2017. https://www.imf. org/external/pubs/ft/fandd/basics/52-shadow-banking.htm Lotfi, Karoui, Amanda Lynam, Marty Young, Chris Henson, Donnie Millar, Spencer Rogers, and Michael Puempel. 2020. “Private Credit: Robust Growth, Hidden Volatility and Remote Macro Risks.” Goldman Sachs. January 28, 2020. McKinsey & Co. 2019. “McKinsey Global Private Markets Review 2019: Private Markets Come of Age.” McKinsey & Co. 2020. “McKinsey Global Private Markets Review 2020: A New Decade for Private Markets.” Mullen, Cormac, and John Ainger. 2020. “World’s Negative-Yield Debt Pile Has Just Hit a New Record.” Bloomberg News. https://www. bloomberg.com/news/articles/2020-11-06/negative-yielding-debt-hits-record-17-trillion-on-bond-rally Munday, S., & W. Hu, T. True, J. Zhang. 2018. “Performance of Private Credit Funds: A First Look.” The Journal of Alternative Investments, 21(2), 31-51. October 2018. https://www.researchgate.net/publication/328552104_Performance_of_Private_Credit_Funds_A_First_Look Narayanaswamy, Meera, Charles Blitzer, Ana Carvajal. 2017. “The Importance of Local Capital Markets for Financing Development.” EM Compass Note 28, IFC, January 2017. NN Investment Partners. 2017. “Alternative Credit and its asset classes.” May 2017. https://assets.ctfassets.net/ y4nxuejkhx03/3PYG54Iy5WG5QCV7Efyl5x/f4c28cf7c2da5cbfe689a38bbc968f7d/NN_IP_Guidebook_to_Alternative_Credit.pdf Private Equity International. 2017. “The Global Guide to Private Debt.” https://www.privateequityinternational.com/product/global-guide- to-private-debt/ Privcap. 2014. “Fund-Management Mistakes That Shave off IRR Points.” April 2014. https://www.privcap.com/fund-performance- optimization/ Rajan, Raghuram G. 2005. “Has financial development made the world riskier?” Proceedings – Economic Policy Symposium – Jackson Hole, Federal Reserve Bank of Kansas City, issue Aug, pages 313-369 https://www.nber.org/papers/w11728 Ropes & Gray. 2018. “Introduction to Credit Funds: Basics on How Credit Funds and Private Equity Funds Differ.” September 2018. Schwimmer, R. 2018. “Defining the Taxonomy of Private Credit: The Strategies and Risks.” The GIIN & Symbiotics. 2018. “The Financial Performance of Impact Investing through Private Debt.” World Bank. 2015. “Principles for Effective Insolvency and Creditor/Debt or Regimes.” http://pubdocs.worldbank.org/en/919511468425523509/ ICR-Principles-Insolvency-Creditor-Debtor-Regimes-2016.pdf 8 This publication may be reused for noncommercial purposes if the source is cited as IFC, a member of the World Bank Group.