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Private Debt - The Ancient Alternative

Updated: Sep 13, 2022

Private Debt in the eyes of many is an alternative investment but, in fact, it is one of the most traditional ways of accessing capital. It is not just traditional, it is ancient.

The fundamentals of private lending have not changed much since 2000BC (aside from punishments for non-payments, thankfully). For example, King Hammurabi of Babylon (1810 – 1750 BC) passed some of the earliest legislation governing private lending in his famous Code of Laws and many components would not look too out of place in the modern world:

  • Law 100: Repayment of a loan by a debtor to a creditor must be on a schedule with a maturity date specified in written contractual terms.

  • Law 122: A depositor of gold, silver, or other collateral must present all articles and a signed contract of bailment (security) to a notary before depositing the articles with a banker.

  • Law 125: A banker was liable for the replacement of deposits stolen while in their possession.

Lending during this period was less concerned with private enterprise and more with accessing working capital to perform crucial functions of society. Farming, construction, and exploration were some of the main uses of private debt capital.

Fast forward to 2021 and private lending is still touted as an efficient means of accessing capital, not just for the core functions of an economy but for almost any need out there. The variety of needs presented by borrowers and the retrenching of traditional lenders post-2008 credit crisis has seen private lending evolve into a more prominent form of investment capital, which now occupies an important sector in the capital markets.

One simple way to differentiate private debt strategies is by looking at the risk and return characteristics of the underlying loans.

The capital structure diagram above ranks the common types of financing based on their repayment priority in case of default and their associated risk/return profile. At the top of the capital structure are Senior Secured Loans, which are first in line to get paid in the event of default due to their rank and collateral protection. These loans are regularly secured against a defined pool of collateral, meaning the lender has a direct claim on key assets of the borrower, which are used to pay the lender back in the event of default. The further down the capital structure you go, the further down you go in priority of repayment. To compensate investors for that additional level of risk, they tend to earn a higher rate of return on loans that are subordinated and/or unsecured.

The practice of private lending remains unchanged in its fundamental principles: taking collateral of the borrower and lending against that collateral up to a risk level that satisfies your appetite. However, instead of grain, gold, and silver, the collateral of today is wide-reaching to include accounts receivable, financial securities, real estate, equipment, and inventory. Standards of due diligence, financial modeling, and accounting have also changed, with alternative lenders being at the forefront of innovation in these areas.

The world of private debt can seem overwhelming when considering the range of options available to investors, but people are probably more familiar with this asset class than they may think. Investors should find reassurance in the historical foundation of private lending as it helps to remove elements of complexity and obscurity from how we view this asset class today.

Over time we will cover more crucial topics in private debt to help investors learn more about this asset class and be able to choose a private debt strategy that is right for you.

*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. All investments contain risk and may gain or lose value.


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