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Private credit firms lean on origination partners to push into asset-backed lending
by Nathan Tipping & Lisa Fu
The private credit juggernaut keeps trundling on. Seizing on yet another business opportunity, firms such as Carlyle and Fortress are thrusting into the private asset-backed finance market, which by some estimates could be worth USD 30tn.
The route into this market that firms are increasingly favouring is through pre-funding deals or forward flow agreements. These typically involve private credit managers partnering with specialist lenders to gain access to the future origination of assets like consumer or SME loans in exchange for upfront funding.
Small banks, flush with deposits but without in-house origination capabilities, were once major buyers of these assets. But they have pulled back owing to tougher regulations and higher capital requirements, leaving a gap that private credit firms are happy to fill given strong demand from investors for exposure to asset-backed finance (ABF).
In July, Carlyle agreed a USD 250m partnership with FarmOp Capital to finance loans for US farms, while Castlelake inked a USD 2.5bn deal with fintech Pagaya to fund consumer loans. In May, Fortress agreed a USD 1.2bn facility to fund consumer loans sourced by Upstart. And last year, Ares Management signed a pioneering deal to pre-purchase some of Investec’s future lending. The bank originates more than GBP 7bn in loans annually.
By owning the loans, I’d be taking the risk of the borrower not paying me back
Akhil Bansal
Head of asset-backed finance
Carlyle
Forward flow agreements suit all parties: private credit managers get to deploy capital at scale by outsourcing origination and underwriting, while the lender takes servicing fees.
“Part of the reason why [private credit managers] like forward flow is you’re effectively leveraging someone else’s infrastructure,” said Dominick Ruggiero, global co-head of asset-based credit at Fortress Investment Group.
For a private credit firm, a forward flow agreement primarily entails managing credit risk. If, by contrast, the firm bought a specialist lender outright, it would assume all the risks involved in running a lending platform.
Akhil Bansal, head of asset-backed finance at Carlyle, said that by owning the loans, he’d be taking the risk of the borrower not paying him back. “Owning the platform, [the question is] can they profitably originate, underwrite, fund and service loans and make money doing that?”
Private credit managers also have the option of buying existing portfolios of assets in their entirety. “We buy portfolios all the time, that’s part of our business,” Ruggiero said. “It’s one of the investment themes we have, but those portfolio acquisitions are not generally a consistent opportunity set.”
For originators, a forward flow agreement is a handy means of financing fresh lending without committing their own funds — something especially appealing to the shareholders of a new entrant. As the economic interest in the loans passes immediately to the private credit firm providing funding, the originator is able to keep a light balance sheet.
Italian specialist lender Sigla Finance is searching for a forward flow partner for loans backed by borrowers’ pensions and salaries. Meanwhile, specialists like UK SME lender Funding Circle have made forward flow central to their operations.
“Their business model is to originate and to scale, and one day IPO,” said Dennis Heuer, partner at White & Case, speaking about fintech originators. “These platforms often need to grow, but without building up too large a balance sheet.”
The opportunity for private credit firms has arisen as a result of banks retreating from the pre-funding market because of stricter regulations. Originators responded by tightening credit and charging more for loans.
“It got to the point where we thought there was really interesting paper being originated that was probably being overly penalised by the capital markets for the lack of liquidity,” Ruggiero said.
