The past year provided a textbook example of why investors should diversify beyond stocks and bonds to minimize risk and preserve capital. Among the alternative asset classes that continued to generate positive returns for Nicola Wealth’s clients in 2022 were private debt and mortgages.
Despite the challenges of sharply rising interest rates and a possible recession, Senior Director, Mortgage Investments, Simon Carlsen and Senior Director, Private Debt, Jurgen van Vuuren explain how Nicola Wealth’s Private Capital team intends to maintain and improve upon their positive returns in 2023.
“Our portfolios are doing very well right now,” said Carlsen. “The Nicola Private Debt Fund’s return for the past 12 months ending October 31, 2022, was 6.4%; the Nicola Balanced Mortgage Fund’s return for the same period was 5.9%. Since we remained positive this past year, amidst so much volatility, we are confident Nicola Wealth’s private debt and mortgage funds can sustain and possibly even improve on that performance next year.”
“If you look at an average, middle-market loan, at the start of the year it was yielding about 6% to 7%. That loan, if it’s done in this market, is now yielding 10% to 12%,” van Vuuren said. “So, it’s a pretty exciting time to be in private credit.”
The caveat is that borrowers must be able to afford the higher rates. There are signs the incidence of default may be rising market-wide, but none of the loans in the Nicola Private Debt Fund are currently in default. Jurgen van Vuuren’s private debt team aims to keep it that way, for example by favouring firms with the ability to raise their prices and non-cyclical sectors such as information technology and health care.
"We’re making sure we’re lending to companies that have very resilient earnings,” van Vuuren said. “Asset selection is critical in this environment.
Likewise, on the mortgage side, Nicola Wealth’s mortgage investment team is picking their battles, and opportunistically lending against properties that they think are going to be resilient or potentially even see rents increase. As banks and other conventional lenders have pulled back from lending to segments of the commercial real estate market, “we’re seeing an opportunity to really go down the risk curve and also capitalize on a little bit more yield,” Carlsen added.
In that sense, the Nicola Wealth mortgage funds are having it both ways right now: the portfolio’s risk profile is going down even as its income stream rises. Of course, a deep recession could upset that happy circumstance, which is why the Private Capital team takes care to stress-test loans and borrowers under different interest-rate and cash-flow scenarios in order to feel comfortable with the debt.
“The extra interest burden is tougher for the borrower to service, but if interest rates are going up faster than default rates are rising,” investors should benefit, van Vuuren said. “You should end up with a better return from the private asset class, once it’s all said and done, if you’re picking the right assets that don’t default.”
This material contains the current opinions of the author and such opinions are subject to change without notice. This material is distributed for informational purposes only. Forecasts, estimates, and certain information contained herein are based upon proprietary research and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Past performance is not indicative of future results. All investments contain risk and may gain or lose value. Returns are net of fund expenses charged to date. This is not a sales solicitation. This investment is intended for tax residents of Canada who are accredited investors. Residency restrictions apply. Please read the relevant documentation for additional details and important disclosure information, including terms of redemption and limited liquidity. Please speak to your Nicola Wealth advisor for advice based on your unique circumstances. Nicola Wealth is registered as a Portfolio Manager, Exempt Market Dealer and Investment Fund Manager with the required securities commissions.
