PSERS may make first public credit commitment of this year in Europe May 31

By Muskan Arora

The $72.8 billion Pennsylvania Public School Employees’ Retirement System may make its first public credit commitment of $162.4 million (€150 million) to ICG Europe Mid-Market Fund II of 2024. The staff awaits the Board’s final approval, which could come at its Friday, May 31, meeting, for the allocation

The annual pacing, designed by staff and consultant Aksia, ranges from $550 million to $750 million to maintain the target exposure of 6% for its credit sleeve. This would leave PSERS with up to $587.6 million to allocate to its PC bucket in 2024.  

ICG Europe Mid-Market Fund II will invest in smaller borrowers in Europe, where PSERS has limited exposure. 

“While the fund targets mid-teens return which is high for credit, they generate those returns by focusing on strong businesses,” said Sean Sarraf, lead portfolio manager of private credit, in the recent meeting of the board’s Investment Committee

Distressed credit in general carries with it greater execution risk and much more performance dispersion, therefore PSERS prefers ICG's approach which is to control for such risk through structuring.

“We prefer this approach to distressed credit as it targets similar returns but carries with it greater execution risk and much more performance dispersion,” Sarraf added.

The fund will focus on businesses in developed Europe with enterprise values between $108 million and $1.08 billion. They will invest in middle or intermediate part of the capital structure. 

“They'll do so by utilizing a blend of junior debt senior debt and will participate in some equity upside through warrants or convertibles,” presented Sarraf to the committee members. 

“The majority of fund investments are expected to finance non-sponsored businesses or businesses that are not owned by private equity,” he added.

The system is leaning towards ICG due to their local market expertise across Europe, which sets them apart from competitors as many may focus on a single country or a sub-set of countries.

Previously, PSERS has committed to four vintages of ICG’s large cap European fund series. The series is one component of their overall European strategy in mid-market fund series. 

However, this recommendation by the staff taps into the other component which targets small businesses and there is no overlap between the two strategies.  

In the last couple of years, the European market has witnessed conditions which caused a change in the yield curve, resulting in headwinds to banks in the middle market. Therefore, banks are refraining from sizing their portfolio of leveraged loans and have changed practices in refinancing. 

“The EU banks haven't had the capacity to be able to recycle their portfolio into new deals, which clears the market opportunity for private credit, and we've been able to take considerable advantage of that dynamic,” said Gareth Knight, strategy head for ICG, while talking about the current landscape is favorable for PC investments. 

The system allocates 7.5% to its credit bucket against a target of 6%, as of September 2023.