Percent 2022 Year in Review: A Look Back and Ahead

In 2022, rising yields wreaked havoc on portfolios of public assets like listed stocks and bonds. The higher yields depreciated existing bond portfolios which were constructed when yields were far lower. For example, someone who invested in an ‘ultra-safe’ iShares U.S. Treasury Bond ETF at the start of 2022 would be down 13.71% as of December 30, 2022. Vanguard’s dashboard of fixed-income sector returns and yields showed a sea of red for most of 2022. U.S. Asset-Backed Securities and U.S. Mortgage-Backed Securities were down 5.06% and 13.66% respectively in just the first three-quarters. For the same period, U.S. High-Yield was down 14.74% and emerging market debt was down 23.95%.

Lower valuations in the near term are the price that must be endured to ultimately benefit from rising prospective yields. Over the course of 2022, 2-Year and 5-Year Treasury yields rose from 0.78% and 1.37% to 4.41% and 3.99% respectively. Yields on BBB rated corporate debt rose from 2.70% to 5.80% and yields on Single-B rated corporate debt rose from 4.82% to 9.22%. Given the sell-off in public bonds, investors in private credit have been tempted by rising returns in public fixed-income markets, the lack of which in times past drove them to private markets in the first place. Since yields on public bonds ballooned in 2022, private markets momentarily lost some of their relative allure. However, private credit can provide investors with other benefits, including diversification and structures tailored to their specific needs.

Throughout the year, private markets have seen yields rise. On Percent’s private credit platform, the weighted average APY of outstanding private credit offerings has risen from 14.66% in December 2021 to 14.95% in December 2022.

Equities are also seeing higher yields. As the price-to-earnings ratio of the stock market at large has fallen, the earnings yield of the market or, put differently the ratio of annual company earnings to stock prices, has improved. A similar trend was observed in U.S. commercial real estate where ‘cap rates’ rose. In most markets, earnings could be bought more cheaply now than a year earlier. 

While 2022 has been rough for the market, prospective returns have improved. This is a positive indicator, particularly if inflation subsides. 

2022 introduced, or reintroduced, some hazards. For one, diversification did not provide its usual support as historical correlations did not hold. This led some commentators and media to put out obituaries for the traditional ‘60 / 40 portfolio’ or at least ask if the approach of holding a portfolio of 60% stocks and 40% bonds is still relevant. While the topic is controversial and rumors of a demise may be exaggerated, the fact that it is being discussed is revealing.

Investors’ portfolios have just not performed as they had expected. Blackrock explained it well, “Bonds are struggling to provide the ballast they once did. Coupled with rising rates and high inflation, it might be time to diversify elsewhere.” As such, they suggest adding a 20% allocation to alternative investments, including private credit. As they put it, “We believe a 50/30/20 portfolio allocation is the new 60/40”.

So what happened? Simply put, public bonds did not provide the same counterbalance to the public equity markets as we have seen in prior bad years. Neither did crypto, which many expect to appreciate in inflationary times. A tough spring last year led Bitcoin to finish the year at $16,606.43 as compared to $47,748.83 when the year began. Precious metals did a bit better. Gold and silver ended the year relatively flat, at $1,830.10 and $24.18 an ounce compared to $1800.10 and $22.81 respectively at the start.

For most investors in private credit, including those invested in private credit offerings on Percent, these price movements are not as relevant given the relative lack of correlation between private credit assets and public markets.

However, hazards exist, primarily when it comes to credit risk. Rising rates increase the chance of loan defaults as siphoned liquidity weakens the likelihood of refinancing. As a result, stringent underwriting standards are essential and collateral matters more than it has in the past, when defaults were rarer. Rising rates pose a threat to borrowers with a near-term maturity, so having a management team with capital raising experience is also important. Finally, borrowers with floating rate debt have to cover interest payments that have ballooned in recent months, so any borrower that can increase the price of their product has an advantage.

On the plus side for borrowers, although the economy slowed during 2022, there was no severe recession. This means many still have healthy balance sheets and may be growing despite these challenges.

For investors, having the transparency to compare offerings and make selective, well-informed investment decisions can help to sustain portfolio returns and mitigate losses. Percent continues to diversify its offerings of private credit investment opportunities to give investors more choice and provide borrowers with access to capital.

As of December 31, 2022, nearly $110 million in investments were outstanding on the Percent platform as compared to $71 million at the end of 2021. Much of this capital was raised for borrowers who joined the platform in the past year. These borrowers include ID Finance, a Spanish and Mexican consumer lending platform, and venture capital-backed tech firms like Taiger, a leading provider of artificial intelligence solutions to banks, insurers, and the legal industry. Just over $275 million across 106 private credit transactions, spanning asset-based facilities to corporate loans, was issued on the Percent platform in 2022.

The transaction with Taiger was structured by Percent alongside AP Structured Finance, a third-party underwriter on the Percent platform with extensive and proven experience in the Latin American financial markets. In 2022, Percent opened its platform to third-party underwriters. Allowing investors to invest in offerings sourced and structured by underwriters other than Percent increases the variety of offerings and structures available on the platform.

In 2022, investors on Percent earned $12.5 million in interest, or $12.1 million net of fees, as compared to defaults of $[5.8] million. Supporting expected returns to investors in 2023 is the fact that private credit yields have risen. The average yield of notes outstanding on the Percent platform rose from 14.66% in December 2021 to 14.95% in December 2022. Investors shifted towards shorter-duration structures in 2022; only 2.7% of notes issued on the Percent platform last year were over 2 years in term as compared to 8.5% in 2021.

In the spring, Percent introduced a new investment product. Percent Corporate Loans are designed to provide high-growth companies with essential capital between fundraising rounds. Beyond gaining exposure to additional high-yield, short-term investment opportunities, investors can selectively invest in innovative companies that they believe are poised for future, long term success. The corporate loans are typically designed to be repaid upon the company’s next round of equity financing. Two companies, in addition to Percent itself, have already used the platform to raise venture debt. 

Throughout 2022, Percent introduced several new Percent Blended Notes, building on the investment program launched in late 2021 in response to investor demand. Percent Blended Notes provide algorithmic exposure to a revolving portfolio of eligible notes on the platform in one single investment vehicle. The new Blended Notes include offerings with exposure to specific subsets of the investment universe, such as senior ranked transactions, short-dated transactions, and higher yielding transactions. Some of these notes featured partial credit protection via the Anzen Protocol, which Percent incorporated in June 2022.

As an example, the PBN High Yield 2022-1 note, issued on November 15, 2022, provided investors diversified exposure to a revolving portfolio of notes offered on Percent with a minimum APY of 12.00%. This note featured partial default protection provided by the Anzen Protocol. It gave investors an easier means of gaining exposure to multiple notes, all through a single investment decision. Nearly 50 investors invested more than $640,000 and gained diversified exposure to small business and consumer loans.

From a platform perspective, we continue to develop and deploy new functionality to improve the investor experience. Our new syndication process makes it simpler for borrowers to reach investors and removes some of the operational and time constraints to accelerate deal closing. We replaced the Dutch Auction process and now accept investment requests throughout the funding period.This allows investors to place an order at any time during the funding period and still receive an allocation – even if a deal becomes oversubscribed – should their order be placed at a sufficiently low APY. This occurred with a 9 month note for Torro in November 2022 (TOR1 2022-6). In that instance, Torro chose to close a $2.2 million note at a 12.00% APY, the lowest end of the 12.00% – 13.00% range. At the highest end of the range, there were almost $2.9 million in orders.

With this update, Percent has also made it easier for investors to influence the pricing of notes on the platform by choosing a minimum APY when investing. An investor could, for example, place an order that only successfully receives an allocation if the note prices at 11.00% or higher. This information is conveyed to borrowers who may choose to close a note at a higher APY if it means successfully raising an amount that would match or exceed their original target. Similarly, investors can also set a minimum investment amount, ensuring that investments are made at an acceptable amount.

In addition to providing greater flexibility for investors to set specific parameters, gaining a clear view of demand and investor appetite accelerates the syndication process for borrowers and underwriters. For investors, the ability to establish (and amend) desired terms in an ongoing process removes the pressure to invest as soon as an offering is launched and minimizes reliance on email alerts. The ability to adjust desired terms up until the funding close date maximizes investors’ chances of participating in the offering.

In conclusion, 2022 brought high inflation, rising yields, and lower prices for public assets. Traditional diversification strategies proved unable to counterbalance declines with offsetting gains. Diligence and flexibility will be paramount for investors seeking returns in 2023.

As market conditions evolve, Percent continues to enhance its platform and develop new solutions to support investors and provide access to a diverse group of borrowers. Private credit and other alternative investments can offer important diversification, with limited correlation, and access to returns in dynamic markets. Percent provides a variety of tools to help investors identify and take advantage of opportunities in 2023, including transparency into deal terms and underlying financials, the ability to readily compare different offerings, integrated risk mitigation strategies such as credit protections and collateral, and greater control over the terms under which they are willing to invest.