Retail subscription rates for Astrea 7 bonds suggest investors may be better at assessing risk than regulators think

RETAIL investors in Singapore seeking higher yielding investments had reason to cheer with the latest series of Astrea private equity (PE) bonds from Azalea Investment Management this month.

Astrea 7 – the fourth round of retail PE bonds from the Temasek-owned fund manager – marked a departure from previous issuances, with the junior Class B tranche made available to the public for the first time.

The Class B bonds came with a higher credit risk profile, but correspondingly paid a better coupon of 6 per cent per annum to compensate for the risk. Astrea 7’s senior Class A-1 tranche had a coupon of 4.125 per cent.

The new issuance gives investors greater choice on the risk and reward spectrum, and brings investors a step closer to enjoying private equity-like returns.

The subscription rate from retail investors into both classes shows some interesting trends on the level of demand for riskier assets. This could also drive considerations on whether it is time to further open the asset class to retail investors.

Subscription rate

When the issuance was announced on May 19, my impression was that retail investors would be highly interested in the new Class B tranche.

After all, a 6 per cent coupon is higher than the dividend yield from many blue chips and some real estate investment trusts in the local public market.

The 6 per cent annual interest is also quite a bit better than the Class A-1 Astrea issuances over the years – which had coupons of between 3 and 4.35 per cent – and means that investors are getting closer to the higher returns expected from PE.

For context, most PE funds have a hurdle rate of 8 per cent before the manager can get a share of the fund’s profits.

Even though the Class B bonds rank junior to Class A and come with higher credit risk, they are still considered investment grade, and have safeguards embedded in the structure, such as cash reserves.

Astrea 7 also has a more conservative loan-to-value (LTV) ratio than previous Astrea issuances – under 40 per cent – and the latest Class B tranche had a better credit rating score of BBB+.

Past Astrea Class B issuances were rated BBB, but also had a track record of ratings upgrades during the bond’s life.

It was thus somewhat surprising that it was still the Class A-1 bonds that retail investors flocked towards, with far fewer applications going to Class B.

At the close of the offer, there were valid applications of S$877 million from 30,565 investors for the Class A-1 bonds, more than 3 times the S$280 million available.

This also dwarfed the US$126 million in applications for Class B bonds from slightly over 7,000 applicants, which represented just 1.3 times the total of US$100 million available in the public offer.

Greater access

Azalea’s management has said its goal is to broaden access to PE and better cater to investors with different risk preferences and investment horizons.

Following the Astrea 7 results, chief executive Margaret Lui also said in a statement: “Azalea will be guided by investors’ demand and feedback to develop and introduce more innovative products and solutions to deepen investors’ exposure to private equity in the future.”

One potential next step would be direct equity exposure to a PE fund-of-funds. Data from Cambridge Associates as at Decembcer 2021 showed its US private equity index had notched annualised 10-year returns of 18.5 per cent, outperforming the 14.3 per cent from the Russell 2000 index over the same period.

Given the lacklustre response for Class B bonds, however, do retail investors even have the appetite for the risks associated with PE funds?

I think we can still view the subscription results in a positive light: Retail investors are looking beyond headline returns to select a product that suits their risk profile.

Some may have opted for Class A bonds because they wanted a relatively safe way of storing their money at yields better than bank deposit rates.

The exposure to the US dollar may have also made some investors less comfortable with the Class B offering.

Whatever the reason, retail investors may be sophisticated enough to make their own decisions about higher-risk investments.

Providing an alternative

There are quirks to PE as an asset class – such as illiquidity and the opaque nature of private markets – that would require some work from regulators and product providers before it can be made publicly available. But there are potential long-term rewards.

Anecdotal evidence suggests some retail investors have resorted to speculative assets to juice up their returns.

Last year’s meme stock frenzy is one example, and lately we have also seen investors dive into unregulated assets such as cryptocurrencies or non-fungible tokens (NFTs). 

Giving risk-seeking investors access to a regulated alternative that meets their desired level of returns – even with some level of complexity – might be useful.

Azalea managed to work with its regulator to bring the Class A-1  PE bonds to retail investors back in 2018, and this has now evolved with the Class B bonds also being available. 

One would hope that the step-by-step approach taken to expose retail investors to PE would eventually pave the way for investors to tap into some form of equity participation, and be fully exposed to the risk and reward the asset class can bring, in a prudent way.