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SIMON BROWN: I’m here with Dino Zuccollo from Westbrooke Alternative Asset Management. Dino, thanks for joining me. We often have enlightening discussions, and today we’re zeroing in on alternative investments like private credit and private equity. Based on our conversations this year, it seems South Africa has been a bit underrepresented in these areas, but there’s a noticeable upward trend.
DINO ZUCCOLLO: Thank you, Simon. It’s always a pleasure. You’re absolutely right. When analyzing our typical clients in South Africa – and to provide some context, Westbrooke’s objective is to grant clients access to global alternative or private markets – I observe that most clients allocate between 0% and approximately 5% to 10% towards alternatives. This year, we have noted a significant surge in both demand and capital inflows into our alternative investment products and strategies.
For context, we currently oversee over R13 billion in assets for around 3,000 individual clients, about 120 wealth management firms globally, and a variety of local and international institutions.
Consequently, a common theme we’ve seen this year is the rising appetite for alternatives. Notably, this reflects a global trend. Earlier this year, JP Morgan published their 2024 Global Family Office Report, revealing that major family offices across the globe now commit an average of 46% of their portfolios to alternatives, while only 26% is allotted to publicly traded equities.
SIMON BROWN: That’s certainly compelling. A part of this appeal lies in potential returns, and part can be attributed to the dominant role of technology in worldwide markets. While technology is beneficial, investors are actively seeking diversification. The lack of correlation is crucial. Although liquidity can pose challenges, sound investment management can alleviate its significance.
DINO ZUCCOLLO: Absolutely, liquidity is a consideration. You’re spot on; one of the primary trade-offs in alternatives is that immediate access to money is generally not feasible.
I regard liquidity as a characteristic rather than a disadvantage of alternatives. It assists investors in steering clear of the classic trap of buying high and selling low. Personally, I value the commitment over a fixed period, as it fosters better long-term decision-making. That’s my first point.
The second point arises from a survey we conducted with our clients earlier this year about their reasons for investing in alternatives. Surprisingly, one might assume that higher returns would top the list, yet it actually came in third.
The leading two reasons cited were the advantages of low correlation and diversification, which aligns with your earlier observation, Simon. The South African market parallels US markets, where the number of listed companies has decreased over the last three decades, yet market capitalization has grown.
SIMON BROWN: Shifting focus to the investments themselves – local versus offshore. Let’s start with local. The primary market focuses on offshore, specifically your private credits in the UK. How does the local investment landscape look?
DINO ZUCCOLLO: This year, the investment milieu has certainly faced more hurdles compared to client demand. Westbrooke operates in South Africa, the UK, and the USA. In the past year, we’ve seen elections unfold in each of these regions, and it appears even though interest rates are beginning to decline, they have notably remained stubbornly high.
This scenario has caused earnings growth in numerous businesses we’ve evaluated to be limited, particularly for those with significant debt ratios, as a considerable portion of cash flow is directed towards servicing debts rather than growth investment.
Thus, identifying asymmetric investment prospects throughout the capital structure has been quite complex. In South Africa, the situation has been rather polarized. We encountered one of the most challenging economic climates in Q4 of last year and Q1 of this year.
However, following the transitional government, we’ve seen a remarkable resurgence of entrepreneurs and capital returning to the country. Our private debt funds are expected to gain from this, as we aim to provide senior debt, hybrid capital, or innovative mezzanine funding solutions. Although our private debt funds had a more subdued first half of the year, they have become significantly more active in the latter half.
Another local focus has been the 12B investment structure within the renewable energy domain. Over the last 18 months, we’ve channeled approximately R450 million across 65 transactions in this sector. Interestingly, many investors are seeking to invest not primarily due to load shedding worries, but because of the expected 35% increase from Nersa this year. Entrepreneurs in South Africa are increasingly pursuing stable and reliable electricity sources that operate independently from the Eskom grid.
SIMON BROWN: That’s a great observation. I might be considering installing solar panels at home, especially if Eskom continues to provide, as you mentioned, expensive electricity. That said, businesses may have a different perspective. They recognize the value in green and cost-efficient alternatives, and there remains persistent demand in that sector, even if household installations are declining. I believe your focus here is more on corporate investments, with all due respect.
DINO ZUCCOLLO: Indeed, while the household solar market is promising, with these installations often featuring expensive battery systems compared to rooftop panels, there’s great potential for asset managers as we can rapidly deploy more capital into these opportunities. In contrast, standard grid-connected rooftop systems tend to be less costly.
However, as you aptly pointed out, Simon, our main focus is indeed on corporate investments. Businesses contend with the fact that while the grid remains electrified, it also remains unstable. They experience regular outages and are searching for a guaranteed price increase that falls below the aforementioned 35%, while also demanding greater reliability.
SIMON BROWN: Absolutely. The grid is aging. Even if load shedding isn’t an issue, power outages continue to pose a problem.
Turning to offshore markets, your significant fund in the UK is engaged in private credit. With interest rates declining, it seems likely that government rates won’t fall as dramatically or swiftly as many anticipated a few months ago. Perhaps the impending Trump election could influence that. Nonetheless, this sector continues to flourish, driven both by business needs and consumer demand.
DINO ZUCCOLLO: Exactly, Simon. Our flagship fund in the UK, Westbrooke Yield Plus, is a secured private credit fund that typically provides loans secured by real estate. This fund has garnered considerable interest this year, with gross assets under management approaching £200 million. It yields returns in the range of 7% to 9% in sterling.
As you mentioned, while interest rates are declining, leading to potentially lower fund returns, it’s essential to remember that investors are generally more focused on cash returns in relation to bonds or cash equivalents. That spread remains intact. Additionally, we’ve transitioned about half of the loans in our portfolio to fixed-rate debt, introducing a level of natural interest-rate protection.
We’ve also experienced a substantial increase in activity within our Hybrid Capital segment, which emphasizes preference shares and mezzanine funding. Our UK fund, overseeing about £40 billion, is fully invested across seven or eight investment opportunities. Accordingly, we are planning discussions with clients about potentially launching a second hybrid capital fund next year.
Finally, regarding the USA, our local team boasts extensive expertise in real estate. We haven’t significantly engaged in equity real estate investments in the US for nearly three years. However, with decreasing interest rates, a favorable political environment, and more realistic seller pricing expectations, we are finally observing promising investment opportunities in the real estate sector.
Our focus for the upcoming year will be primarily on residential, multifamily, and mobile home park investments. We aim to cautiously re-enter the real estate sector in the US and subsequently establish a private credit capability similar to what our investors have come to anticipate from Westbrooke in the UK.
SIMON BROWN: That sounds like a thorough strategy.
We’ll wrap up our discussion here. Dino Zuccollo from Westbrooke Alternative Asset Management, I always appreciate your insights.
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