‘It’s the Wild West’: Why ASIC is worried about private credit

It was dubbed Halo, and it looked like a sure thing. In the heart of the city’s commercial centre, the site was right near a transport hub with access to the new Hunter Street railway station. The plan was for a sustainable timber design in demand by climate-conscious corporate tenants and Lendlease was considered a potential owner.

But despite this promise, construction is yet to start. The developer in charge of the project, Milligan, has struggled to lock in investors, there are doubts about its rosy $1.8 billion valuation and Lendlease won’t even confirm it’s still involved.

Depressed commercial property values due to oversupply and the rise of working from home, on top of persistently high rates and rising construction costs, have exposed troubled loans in the private credit industry.

As private credit firms scramble to extend the terms of the problem loans, AFR Weekend has found cases of potential conflicts in the industry and lax regulation, which may put investors at risk.

This comes as the Australian Securities and Investments Commission has signalled its intention to demand more information from the sector. It released a report into private markets this week and warned there would be more problems for lenders and their investors ahead. “There will be more failures in some private credit investments,” Simone Constant, ASIC commissioner, said. “Australian investors will lose money.”

Merricks, one of the main lenders to Halo, was forced to extend and mark its loan down and in part due to its exposure to the project, its $1.2 billion flagship fund recorded its first monthly negative return in almost five years. (Contacted by AFR Weekend, Merricks said the project was “on track” and demolition was due to start next month.)

There are signs of stress at the developer in charge of the project, run by 39-year-old James Milligan. Two of his main companies, Milligan Group and Milligan Group Holdings, recently had their names changed and have failed to pay taxes. The companies have registered tax defaults worth $1,074,626 and $239,705 respectively.

Private credit firms, otherwise known as non-bank lenders, flourished after the 2018 banking royal commission, as banks pulled back from lending to riskier or less established parts of the market. Sectors which struggled to get loans included commercial property, hospitality and small to medium-sized businesses, which then became the natural customers of the growing non-bank lending scene. And it boomed. As rates rose, operators and investors collected double-digit returns with little effort.

Mark Robinson, a liquidator at Fort Restructuring, says this encouraged smaller private credit funds to set up, which also meant there were more inexperienced professionals suddenly involved in managing tricky work-outs when loans went wrong. And that’s what’s been happening more often lately. “[In terms of] the prevalence of distress, there’s been an uptick in recent times,” he says.

‘Beat the bank’

Among the small players now operating in the sector is Property Investory. Led by YouTuber and podcaster Tyronne Shum, Property Investory arranges loans and then advertises them to investors via a podcast Shum hosts as well as a website and mailing list.

“IF YOU WANT to get a 20-30% return on investment and beat the bank in your property journey, then reply to this email,” Shum said in one email to investors. On the website, where he is advertised as “the most coolest and kindest founder on planet earth”, he said he was “a licensed real estate agent, [Australian Financial Services Licence] corporate authorised representative, and property investor”.

According to ASIC registers, Shum had an AFSL as a representative of Shartru Wealth, but this ceased back in 2023. Shartru had conditions imposed on it by ASIC for not adequately supervising its representatives.

AFR Weekend has spoken to two people who decided to invest in commercial property deals after listening to his podcast, one of which is a retiree and the other, a blue-collar worker. Property Investory corralled the group of investors, but the company isn’t exposed to the loans. In the deals it organised, second mortgages were often used as collateral. The blue-collar worker, who asked not to be named, put money into a hospitality property deal which has since fallen over as the borrower had complex financial issues. Some of these were apparent before the loan was extended, according to documents seen by AFR Weekend.

The worker was angry they weren’t informed about the borrower’s troubles. “There is a real lack of vetting of the clients I would suggest,” the investor said. “I’d like to know what recourse we have to get the money back.” They added that since Property Investory wasn’t financially exposed to the outcome of the loan, they had no incentive to ensure it was solid. Without ongoing updates, investors had resorted to sharing information among themselves. Shum tells AFR Weekend those involved were all wholesale and sophisticated investors who were issued “all the relevant and usual risk disclosures”.

Among the four other employees listed as part of Property Investory’s team on its website is a podcast editor, a video editor and a content strategist.

While Property Investory is a small player, it is emblematic of the corporate governance problem at the heart of the private credit sector. Regulators don’t even know how big it is. The Reserve Bank estimated the value of the private credit market in Australia to be about $40 billion, but other estimates range from $1.8 billion to as much as $188 billion. “Better-quality data is needed to provide more certainty about the size of the market,” ASIC said in its discussion paper released this week.

Aside from managed funds and individual investment opportunities, Australians are also increasingly exposed to private credit via their superannuation.

Chris Selby, a vice chairman at wealth management advisory firm Escala Partners, says the lack of regulation in the sector, poor quality valuations of assets and assessments of funds, left investors in the dark, especially when loans changed hands.

“There are parallels to the GFC, we may be moving into the same outcomes where inappropriate risk is being broken up and individual or retail investors are exposed to it,” Selby says.

‘Pretend and extend’

Fort Restructuring’s Robinson says he is also seeing private credit firms quietly move money between their different funds to plug gaps when one fund has a lot of non-performing loans. “That can be OK if there’s full transparency … the concern is that some of these investors are not being told the full picture when their funds are being deployed.”

Robinson also worries about the prevalence of “pretend and extend”, whereby lenders avoid reporting losses to investors and offer extensions on the loans instead. This is despite the project or company possibly being unable to ever repay. Another way to avoid losses is through refinancing. One employee at a medium-sized private credit firm says its goal seems to be that a loan is refinanced, rather than repaid.

“They are not there to finance to the end. You are just there to get it refinanced, you are just waiting for someone smaller, dumber, more hungry or larger [to take your position],” they say. Meanwhile, it is all about “how can we charge more [interest], build in extra fees”.

“I wouldn’t say dishonestly but [there is] not full transparency,” the person adds.

Selby says these incentives in the sector are worrying and provide disturbing echoes of the proliferation of collateralised debt obligations (CDOs) during the global financial crisis.

CDOs are complex investment products based on debts. During the GFC, banks sold bundles of mortgages, with varying degrees of risk, to investors and when people began to default it triggered the 2007 subprime mortgage crisis in the US.

“What I saw with CDOs, it’s not dissimilar now to how some parts of the private credit market are operating,” says Selby. “I don’t want to call it a scheme, but it’s shuffling risks or investor interests that may not be apparent to the small, less sophisticated investors.”

ASIC said it was “undertaking work to examine private credit and risks for retail investors more closely”. This includes “reviewing governance and practices relating to disclosure, distribution, conflicts, valuation and credit risk management”.

Instant cash hit

One problem area is the management of related party issues. There are many examples across the sector including at Millbrook Group, which is a Melbourne-based private credit fund that does commercial property deals. Its head of credit, Colin Robinson, is also a broker and has brought loan opportunities to Millbrook via his business, Lugero Property, collecting broker fees. He sits on Millbrook’s credit committee where he is involved in loan approvals.

When asked by AFR Weekend whether this was a conflict of interest, Millbrook said there was a “clear policy” on the situation.

“Mr Robinson is not involved in approvals for any Millbrook positions or investments which are originated by Lugero Property Advisory,” a spokeswoman for the company said. “In more than 300 Millbrook deals over three years, only three have been originated by Lugero and Mr Robinson was not involved in their credit assessments.”

High fees in the sector have also been flagged as an issue by ASIC. One private credit executive tells AFR Weekend “it’s the Wild West”. They said firms can profit from exorbitant fees while their investors lose money.

Another former executive in a large private credit firm says there is some unease among their investors about the fees they charge.

“The fund promises returns in the 9-10 per cent range. However, the loans it underwrites are priced between 13-14 per cent. [The fund] is pocketing a substantial amount in returns from its loans,” the executive says.

Funds also collect origination fees for each new loan. “So it’s imperative that the company keep signing new loan deals as that’s an instant cash hit,” the executive says.

And some firms also charge fees based on a percentage of funds under management, which depends on a valuation of the assets. But there are concerns about the independence of those valuations.

Louis Christopher, from SQM Research, which publishes assessments and ratings of private credit funds, says it is difficult for independent, and therefore more reliable, property valuers to survive.

“You’ve got real estate agency groups in the space … [who] subsidise the cost of the valuation,” he says. But there is a temptation for these agencies to offer favourable valuations to maintain clients and win deals.

Christopher says SQM rejects about 20 per cent of the funds that apply to be rated by the agency each year.