(Bloomberg) -- The private credit industry is drawing closer to the trillions of dollars in insurance holdings it needs to keep growing.
Direct lenders are dipping into these vast pots of cash controlled by insurers using a type of securitization. So-called rated feeders turn stakes of private debt funds into top-rated bonds. And they're multiplying: Just this week Apollo Global Management Inc. raised $5 billion through a variation of a rated feeder.
For conservative and risk-averse insurers, the vehicles are a relatively cheap and safe way to take part in the private credit boom that's financing mostly unlisted and leveraged companies. They allow insurers to reduce the amount of capital they need to hold against these investments, making it cheaper for them to buy into private credit funds.
"Ultimately the growth of this market is good," said Rudy Sahay, the founder and managing partner of Aquarian Holdings, which manages insurance company assets. "Aggregating and pooling allows us to invest in the private credits we've done deep diligence on with less risk."
To big private credit firms running down their traditional sources of cash, the feeders are part of a broader push to enlist the insurance industry to fund the next phase of their exponential growth.
Some firms have built out or bought large insurance units of their own. Blackstone Inc., for example, has partnerships with Resolution Life, American International Group and Allstate.
Private credit firms create rated feeders by pledging a stake in their funds to a standalone investment vehicle, which funnels the income stream from loans to pay interest and principal to bond investors. The vehicles mimic other Wall Street products including collateralized loan obligations, a type of securitized debt long held by insurance companies.
Insurers prefer the bonds of rated feeders to the private loans themselves, because the notes have lower capital charges. The securitized bonds at the top of the structure are awarded investment-grade ratings — and capital charges near 2%, compared with 30% or more to holdings of fund shares under US insurance industry rules.
Apollo's offering had a 30-year maturity designed to help insurers match their long-term liabilities. Unlike most feeder products, it bundled together several different types of credit in the same underlying fund.
The most senior slices — rated AA — were sold to insurance companies. The riskiest portion of the securitization, known as the equity, was placed with investors including sovereign wealth funds, pension funds and family offices.
Private credit is also delving into other structured-credit products — including their own versions of CLOs — to bring their funds to insurers. Rated feeders can offer more diverse exposure, including to non-traditional forms of credit such as delayed-draw loans, distressed debt and asset-based finance.
Even smaller players are raising capital through rated feeders. Falcon Investments, which lends junior credit in the US, has mandated Evercore to structure a feeder for as much as $300 million.
"I do think the market will continue growing and developing to a material size, in a similar way to the CLO market," said Greg Fayvilevich, a managing director at Fitch Ratings.
--With assistance from Scott Carpenter and Silas Brown.
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