Democratization or Risk Trap for Investors?

The private credit market, a massive $3 trillion sector once exclusive to high net worth individuals, is rapidly opening its doors to everyday investors through ETFs. While this democratization offers retail investors a chance to tap into high-yielding private markets, some worry access comes with significant caveats.

In a recent interview with Inside ETFs, Paisley Nardini, a multi-asset portfolio manager at Simplify Asset Management, highlighted the growing disconnect between the nature of private assets and the vehicle delivering them. Private markets typically rely on long-term, illiquid capital. However, when these assets are wrapped in an ETF, they will have daily liquidity.

“You don’t always get to have your cake and eat it too,” she said. While investors gain the ability to trade daily, they lose the “smooth volatility profile” associated with traditional private credit. Unlike quarterly statements from private funds that mask price swings, ETFs expose investors to daily mark-to-market volatility.

‘Second Derivative’

Nardini also said that many of these private credit ETFs act as a “second derivative.” Instead of holding private loans directly, they often invest in liquid counterparts like business development companies or closed-end funds. “We like to think about these strategies and ETFs as a proxy,” she explained. The Simplify VettaFi Private Credit Strategy ETF (PCR) is one example.

Despite recent alarming headlines involving bankruptcies in the sector, Nardini noted she remains optimistic, saying that private credit ETFs have recently outperformed some small-cap public equities. However, she mentioned it’s important for investors to understand where the risks are. With yields pushing past 10%, Nardini reminds investors that returns are rarely risk-free.

“There are no real signs of systemic risk,” she said, “but it is important for investors to understand that there will be pockets where there might be some risks within portfolios.”

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