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The passive vs. active investments debate isn’t new, but it’s particularly relevant in private credit, where the risk is higher and the learning curve steeper compared to public markets.
Active investing in private credit can get you higher returns, but it comes with more risk and more work. Passive investing, on the other hand, lets you enjoy good returns with lower risk and without the work of managing a lending facility yourself.
Ultimately, the right choice depends on your financial goals, risk tolerance, and investment philosophy. That said, here at PSA Capital Investments, we believe passive investment is the best choice for most investors. We explain five reasons why in this guide.
Passive vs. Active Investment in Private Credit
When talking about investing in general, the difference between passive and active investors lies in how they select and manage their assets. Passive investors are hands-off. They invest in passively managed funds that track a specific index, such as the S&P/ASX 200. The goal is to match market returns.
In contrast, active investors make investment decisions based on careful research and market knowledge. They constantly monitor market movements to find buying and selling opportunities with the goal of outperforming the markets.
When it comes to private credit, the distinction between passive and active investing is slightly different, although the hands-on versus hands-off contrast remains.
If you want to become an active investor in private credit, you’ll need to set up and manage your own lending facilities. You can be the sole lender, combine capital with other private lenders, or become a part-owner of a private lending business.
Active investing requires a significant amount of capital to set up a meaningful portfolio across various sectors and deal sizes, typically over $500K and sometimes more than $5M, depending on your business model.
There’s also the operational burden of sourcing deals, conducting due diligence, structuring loan terms, monitoring current loans, and dealing with defaults.
Passive investment is a much easier and simpler way of investing in private credit. Instead of doing the lending yourself, you invest in a private credit fund that handles all the work of finding, lending, and managing loan deals. You earn passive income through regular (usually quarterly) interest payouts.
If you’re thinking of investing in private credit, here are five reasons to consider doing it passively.
5 Benefits of Passive Investment in Private Credit
1. Diversification with lower correlation
Private credit has low or negative correlation with public markets, meaning the two move independently of each other. By becoming a passive investor in a private credit fund, you can avoid the volatility associated with traditional equity and bond markets.
This means that even during turbulent economic times when public markets fluctuate wildly, you can keep earning a steady income from your investment.
2. Passive steady income
Because private loans are structured around contractual interest payments, passive investors enjoy stable income. For example, here at PSA, investors receive interest payment distributions quarterly.
The best part is that you earn that income without having to source deals, conduct due diligence, or take on any operational responsibilities. It’s fully passive income; your money working for you.
3. Access to higher yields
Private credit markets are less liquid compared to public securities. However, this constraint on liquidity comes with a reward: higher premiums.
However, capturing these premiums depends on conducting thorough due diligence and effective loan management, which you may not have the time or resources for.
By investing in a private lender instead, a passive investment allows you to enjoy the higher yields available in private credit without having to do any of the work.
4. Simplicity and convenience
Being an active investor in private credit can easily turn into a full-time job. It’s not just deal sourcing and due diligence that await you; there’s also client management, legal documentation, business reporting, recovery management, and more.
Passively investing in private credit through a lender is the best choice for investors who lack the time, resources, or expertise to run what is, essentially, a small bank.
5. Lower risk through broad exposure
Because active investors cannot lend to as many businesses as a private lending business, they rely on a few loan positions to make returns on their investment. If one or two of these deals go sideways, it puts their capital at great risk.
In contrast, investing through a private lender gives you instant access to a basket of diverse loans across a wide range of sectors, regions, and deal sizes. The broad exposure lowers risk while still giving you good returns.
Become a Passive Investor With PSA
Our investment strategy at PSA focuses on protecting investor capital and securing stable, high returns. We achieve this by maintaining a diverse loan portfolio, conducting thorough due diligence to mitigate risk, and offering borrowers fair and transparent terms that make it easier for them to repay and exit quickly.
Ready to get started? Give us a call at (03) 9847 7689 to explore passive investment options.
Disclaimer: The information contained in this document is of a general nature only and has been prepared without taking into account your objectives, financial situation or needs.
