Covenant Lite #8: Point72 and other Multistrats Enter the Private Credit Game
Multistrategy hedge funds are increasingly flirting with private credit
In Covenant Lite #6 (Link), we highlighted the growing trend of bank / private credit partnerships. Today, we are going to cover the beginnings of what could be another non-traditional tie-up: that of multistrategy hedge funds and private credit.
Late last year, there were rumors (Link) that Millennium was considering launching its first new fund in more than three decades, which would invest in less liquid assets including private credit. Then, earlier this year, it was reported (Link) that Point72 had hired former Blackstone executive, Todd Hirsch, to spearhead its new private credit initiative. While details were light, it appears that private credit would be integrated within the broader hedge fund, functioning as a pod alongside the other significantly more liquid strategies that Point72 invests in like long/short equity or quant strategies.
With investor demand for higher yields and diversification at an all-time high, multistrategy funds like Millennium and Point72 are exploring private credit as a way to boost returns without being tied to the volatility of public markets.
In simple terms, the appeal is clear. Private credit offers the opportunity for higher returns (and new fundraising verticals)—even if it comes with the challenge of managing illiquid assets. This article will break down why these funds are making the move, the operational challenges they face, and, if you enjoy a bit of number crunching, how leverage can turn modest yields into a compelling high-return proposition.
Let’s dive into the evolving world of private credit and see how it’s reshaping the investment playbook for multi-strategy funds.
The Multi-Strategy Migration
It might seem counterintuitive: funds built on agile, liquid trading models now finding themselves enamored with an asset class notorious for its illiquidity. But, the logic is compelling. Banks have pulled back from direct lending amid tougher regulations, and investor demand for yield—uncoupled from the relentless volatility of public markets—has reached record heights.
Who’s Making the Move?
Millennium: Rumored to be considering starting a new private credit standalone fund.
Point72: With founder Steve Cohen trumpeting that “demand exceeds supply,” Point72 has begun integrating private credit deals as an extra pod in its multi-strategy engine. Rather than creating a standalone entity, they’re testing the waters within their existing structure.
Citadel: Known for its formidable credit trading operation, Citadel hasn’t yet launched a dedicated private credit fund, but whispers in the industry suggest they’re eyeing opportunities. When all your peers are moving into direct lending, standing still can be the riskiest move of all.
Third Point: Third Point is raising a separate private credit fund, signaling a willingness to build a distinct platform rather than shoehorn illiquid loans into a liquid structure.
Others on the Radar: Funds like Balyasny, Viking Global, and even credit specialists such as King Street Capital are either active or exploring niches in direct lending, asset-based lending, and specialty finance. The trend is unmistakable—if you’re running a multi-strategy shop today, private credit is no longer a sideline.
Why the sudden rush? Part of it is likely greed: these firms see the asset raising bonanza that private credit firms have experienced over the last decade. But part of it likely reflects a realization that they need a foothold in this market as more companies choose to stay private for longer — limiting the investment universe for their core strategies, which are focused on public investing.
The Drivers: Yield, Diversification, and Competitive Pressure
At its core, the private credit play appears to be a response to seismic shifts in the financial landscape:
Bank Retrenchment: Once the titans of direct lending, traditional banks are now shackled by capital and regulatory constraints. Their exit from the market has left a gaping void, one that private credit managers are uniquely positioned to fill.
Investor Appetite: Investors are scouring the market for uncorrelated income streams. Private loans, with their promise of high single-digit to low double-digit yields that are less correlated to equity markets, offer a tantalizing alternative.
Competitive Necessity: When every major hedge fund with over $5 billion AUM is either already playing in the private credit sandbox or actively setting up shop, inaction isn’t an option. The fear of ceding ground in an emerging asset class is enough to spur even the most liquid of multi-strategy funds into action.
In essence, private credit has evolved from a niche corner of finance to a mainstream alternative—one that’s too big to ignore.
The Challenges of Trading Illiquidity for Yield
However, venturing into private credit is not as simple as reallocating a few million from the flagship fund. The structural differences between liquid trading and private lending are stark.
Multistrategy hedge funds typically invest in assets that can be priced daily. Private credit deals, however, are locked in for years with valuation determined by models rather than market quotes. This has the potential to create several headaches:
Redemption Risk: LPs accustomed to ready liquidity on their multistrategy investment might balk at the idea of the GP investing in assets that are locked up for 3–5 years — as is typical in private credit.
Valuation Complexity: Without a Bloomberg ticker for a bespoke private loan, mark-to-model replaces mark-to-market, demanding rigorous valuation committees and side pockets to segregate these assets from the liquid portfolio.
In addition to challenges related to liquidity and valuation, the multistrategy fee model would seemingly present an issue. Multistrategy funds typically operate on a “pass-through” fee model where portfolio managers are paid annually based on mark-to-market profits. With private credit, where gains are realized only at loan maturity or through infrequent exits, aligning incentives becomes a challenge. Should a manager receive a bonus on accrued but unrealized interest? The answer isn’t obvious—and getting it wrong could sap the appetite for this type of investment.
Finally, there is leverage. While leveraging is a staple in public market trading—where prime brokers offer near-unlimited exposure—the same doesn’t hold true in private credit:
Practical Constraints: Banks may only be willing to extend 1x–2x leverage on a loan portfolio, even if the target is 3–4x to hit return thresholds. However, large multistrategy funds may be able to use their public investments as collateral to lever their illiquid assets to these levels.
Liquidity Risks: In a downturn, if financing lines are pulled or collateral values drop, the fund could be forced to deleverage at inopportune moments, compounding losses.
Crunching the Numbers: How Could This Could Come Together for Multistrats
With the challenges above in mind, let’s consider the math that could be behind the decision by certain multistrats to enter private credit. Consider the following simplified model:
The Base Model
Asset Class and Assumed Gross Yields:
Direct Lending: 9-10% (S+450bps - 550bps)
Asset-Based Lending (S+600 - 800bps)
Specialty Finance (S+700 - 1000bps)
Portfolio Size: $1 billion ($250 million equity)
Leverage: 3x
Blended Gross Asset Yield: 12.5% (S+750bps)
In our $1 billion portfolio, this translates into a financing amount of $750 million. With a financing cost of roughly 8% (say, S+2.65%), the calculation goes as follows:
Net Yield on the Portfolio:
12.5% of $1 billion = $125 million per year.
Financing Cost on the Borrowed $75 Million:
8% of $750 million = $60 million per year.
Return on Equity (Unadjusted):
$125 million (yield) – $60 million (financing cost) = $65 million per year on the $250 million equity.
This yields a gross return on equity of approximately 26%.
Adjusting for Fees
Multi-strategy funds typically come with a passthrough fee model that they would expect to maintain on their private credit investments. In practice, this means the private credit “pod” would earn a typical hedge fund fee of 1.5% management fee / 15% performance fee before the multistrategy firm took their own 20% performance fee.
Assumptions:
Pod (Private Credit Investment Manager):
Management Fee: 1.5%
Performance Fee: 15% (applied to gross returns)
Multistrategy Firm:
Additional Performance Fee (if applicable): 20%
After subtracting these fees—roughly 5–5.2% in total fees to the private credit team and an additional performance cut to the multistrategy firm of ~4%—the net return to investors settles around 16.7%. This would be above the 15% threshold that is typical for these multistrategy hedge funds, assuming everything runs according to plan.
This example isn’t a guarantee; it’s a demonstration of how, through judicious use of leverage, multistrategy firms could make gross yields that wouldn’t be immediately appealing workable to their LPs. It’s the kind of math that can turn private credit from a niche side project into a core profit engine—provided the risks are managed as meticulously as the returns are calculated.
Integrating or Isolating? Structural Considerations
A final wrinkle in the story is the structure of these investments. Multi-strategy firms face a choice: do you integrate private credit into your existing flagship fund or launch a dedicated vehicle?
Integrated Approach (Private Credit Pod within Multistrat)
Pros:
Speed and Scale: Leverage the existing infrastructure and capital of a flagship fund.
Synergies: The credit teams can share insights with public trading desks, potentially enhancing deal flow.
Cons:
Liquidity Mismatches: Locking up capital in illiquid loans within a fund that touts regular redemptions creates inherent tensions.
Performance Attribution: Mixing mark-to-market trading with mark-to-model lending can muddy performance metrics, making it difficult to assess true alpha.
Dedicated Fund
Pros:
Tailored Incentives: A structure designed from the ground up for private credit can align fees and incentives more naturally with the underlying asset class.
Investor Clarity: Investors who seek exposure to private credit know exactly what they’re buying into—a fund that’s built to handle long-dated, illiquid assets.
Cons:
Fundraising and Operational Complexity: Starting a new vehicle comes with its own set of challenges—from drafting offering documents to building a team and competing for investor dollars.
A hybrid approach may be the best approach, whereby the multistrategy firm starts small within the flagship fund (perhaps via a side pocket) to build a track record, then spins out a dedicated vehicle once the concept is proven.
Conclusion: A New Challenger Enters the Arena
Just when we thought private credit couldn’t get more competitive, the apex predators of the hedge fund space appear to be joining the fray. These firms innovated in public markets by utilizing leverage and tight risk limits to deliver strong returns to investors. If they are able to do the same in private markets, blending illiquidity with leverage, it could be a very interesting proposition.
The math supports the move—when executed correctly, even modest unleveraged yields can be transformed into double-digit returns on equity. Yet the challenges are real: from aligning fee structures and managing liquidity risks to choosing the right structural vehicle for the strategy.
Exciting times.