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Interview

Yellow Umbrella Mutual Aid to bolster global PE, VC portfolios

By Nov 05, 2020 (Gmt+09:00)

The Yellow Umbrella Mutual Aid Fund, a $12 billion savings arm for South Korea’s small business owners, will diversify its fixed income-heavy portfolio into global private equity and venture capital investments which may deliver 5-6% returns after the coronavirus pandemic subsides, said its Chief Investment Officer Jeong Du-Yeong.

Jeong, an ex-CIO of Korea Scientists and Engineers Mutual-Aid Association, said corporate finance sectors such as PEF and VC will likely experience the J-curve effect, or a sharp recovery after a weak start, adding that the private equity market is not overvalued compared to private debt, real estate and infrastructure.

Yellow Umbrella Mutual Aid Fund's CIO Jeong Du-Young
Yellow Umbrella Mutual Aid Fund's CIO Jeong Du-Young

“We have almost zero exposure to global PE, so we need to build a portfolio in that asset class,” Jeong told The Korea Economic Daily in a recent interview.

“Corporate finance deals such as PE and VC investments may be able to produce 5-6% returns due to the J-curve effect. If we reduce our fixed income portion and divert them into alternatives, it will be quite possible to boost our average investment return by 50 basis points,” he said.

To boost PE and VC investments, the mutual aid fund will place its top priority on deal sourcing, or selecting blind pool funds, given the difficulty of making onsite due diligence in the pandemic era.

“For VC investment, we will look for a fund of VC fund managers if it is hard to find a single VC firm,” Jeong added.

In the infrastructure sector, the institution is focusing on renewable energy, solar energy and biotechnology facilities. For real estate, it will target data centers and logistics facilities, which will benefit from the non-contact business boom in the protracted pandemic era.

It manages 14 trillion won ($12.3 billion) in assets with 1.3 million members as of the end of September. Fixed income makes up 67% of its portfolio, followed by alternatives at 16% and equities at 15%.

It targets a 4% annual return to pay its guaranteed 2.5% return to its subscribers.

Following is the transcript of the interview:

▶ How is Yellow Umbrella Mutual different from other mutual aid associations?

“Korean Teachers’ Credit Union guarantees the principal repayment in case of a default by law. Other mutual aid associations in Korea also say they can guarantee the repayment. But Yellow Umbrella Mutual is not bound by such rules.”

“Another difference is that because most of our subscribers are small business owners, their deposits with Yellow Umbrella Mutual cannot be seized when they file for personal bankruptcy. Due to moral hazard concerns, their monthly payments are capped at 1 million won.”

“We provide loans secured by our subscribers’ deposit accounts. They cannot withdraw money before maturity, unlike conventional savings accounts.”

▶ On asset growth:

“We expected our subscriber numbers to drop sharply due to the coronavirus impact. But they have not decline as much as we expected, excluding March. Recently, cash inflows from our subscribers slowed. Last year, our AUM increased by 2.4 trillion won.”

▶ On your guaranteed rate of return for subscribers:

“It is 2.5% on average, about 70 to 100 basis points lower than other mutual aid associations. That’s why our target return is about 100 basis points lower than their targets. In the medium to long term, our target return is 4%. Until now, we have achieved a 3.5% return.”  

▶ Would it be possible to raise your target return?

“It will be quite possible. Currently, alternative investments account for just 16%. We will reduce the portion of fixed income from the current 67% and divert them into alternatives, maintaining the portion of equities at 15%.”

“We have been in alternative investments for only three to four years. It will be possible to produce 5-6% returns from corporate finance deals such as PEF and VC investments, considering they will likely experience the J-curve effect. If we divert part of the fixed income assets, which yield below 2%, into alternatives, it will be quite possible to increase our investment return by 50 basis points.”

▶ On target ratio of alternative investments:

“We plan to boost the alternatives portion to 30% by 2024. For the longer term, the alternatives portion needs to rise to 50%. But that's my personal recommendation.”

▶ On ratio of each asset class in alternative investments:

“Real assets make up 1.1 trillion won, divided into real estate and infrastructure/others at a ratio of 6 to 4. Divided by type, debt investments account for 65%, with equity investments at 35%.”

▶ On ratio of each asset class in real asset investments:

“Office buildings account for 40% and logistics centers account for 10%, with residential and retail properties each at 5%. In the infrastructure sector, we focus on renewable energy, solar energy and biotech industries. For real estate, we will concentrate on logistics and data centers.”

▶ On future asset allocation plans:

“In alternative assets, we will maintain the ratio of real assets and corporate finance investments at 6 to 4. Specifically, in real estate, we will take some risk with a focus on equity tranches. Equity tranches in real estate and infrastructure assets, including project financing deals, offer downside support, making them less risky than traditional equity investments.”

“In the corporate finance sector, we will keep the ratios of private equity and private debt at 3 to 7, or 3.5 to 6.5.”

(Real asset investment head: “Compared to other mutual aid associations which prioritize profitability, we put top priorities on liquidity and stability. In real estate investment, we focus on mezzanine debt. For equity investment, we favor preferred shares over ordinary shares.”)

▶ On liquidity ratio:

“We need to have high liquidity to brace for cancellation or borrowing by our subscribers when the economy enters a highly volatile period like the coronavirus situation this year."

“This year, we increased short-term money, or liquidity to 8-10% of our AUM, from the previous 2.2% to 3%. They are idle money set aside against premature redemptions or lending to our subscribers.”

▶ On investment plans amid increased volatility caused by the COVID-19 pandemic:

“We will not significantly change our asset allocation plans because of COVID-19. Instead, we will employ different strategies by asset type. For real asset investment, we will invest in real estate and logistics facilities benefiting from the non-contact trend.”

(Real asset investment head: “We will focus on deals sourced by blind pool fund managers, on which we do not need to make on-site due diligence. Additionally, until the COVID-19 pandemic subsides, we will look for redevelopment projects in good locations and new development projects.”)

▶ Do you mean direct investment in those real assets?

“We mean we will select blind pool fund managers with good strategies. If we make greenfield investment in a project, we need to meet people involved in the project, which is currently hard to do.”

“By sector, we are focusing on data centers and logistics facilities in line with the non-contact trend, keeping away from hotels and retail properties which have gathering places.”

“For infrastructure, SOC (social overhead capital) facilities similar to utilities may suffer from low demand. For example, a French power-generating company, which is responsible for part of the electricity supply in France, has cut dividend payments due to declining demand from offices in the current home-working environment. Thus, we are shifting into PPP (public-private project) or government-sponsored deals.”

“For office buildings, we will invest in buildings with a trustworthy anchor tenant under a master lease. Because they will provide steady cash flow over the long term.”

“We will look at assets with low vulnerability to the COVID-19 impact over the next two years, as well as those whose valuations fell to attractive levels due to the pandemic.”

(Real asset investment head: “A development project takes an average of three to four years. We will invest in projects such as redeveloping hotels or office buildings in good locations into data centers. After their construction is completed, the COVID-19 situation will likely subdue and they will generate steady returns.”)

▶ Are you selecting GPs to make such an investment?

“No. We cannot meet GPs placing or brokering such deals. Up to now, we have received sell-down assets from domestic institutions. Our concern is about what we can do after they run out. We may need to ask the authorities to loosen quarantine measures for business trips.”

▶ On valuations of real assets:

“They are expensive across the board. The multiples are higher than two to three years. PE assets’ values look normal, but private debt deals are expensive. Real estate and infrastructure prices are still expensive.”

“Compared to public markets, private markets are slow in reflecting the COVID-19 impact because of a limited number of market participants. I think their prices will come down further. For now, we will focus on safe assets.”

▶ On your $300 mn commitment to the US TALF fund:

“We committed $100 million each to three GPs, including EMP Belstar. We picked pure TALF funds, excluding those proposing to insert asset-backed securities into their funds.”

(Note: TALF funds refer to investment funds that buy securities with borrowings under the US Federal Reserve’s Term Asset-Backed Securities Loan Facility (TALF).

▶ On co-investment plans with foreign pension funds, insurance firms:

“We are working with them on what will be project investments. We want to invest in the US, but we cannot conduct due diligence on each project deal because of COVID-19. For co-investment, we may put up 1 trillion won, and our co-investment partner will carry out due diligence and we will review it through a conference call.”

“We tried to co-invest with one of the top three insurance companies in the US, but its expected return was out of sync with our expectations. We requested a 5% return in dollar terms.”

“Given our small asset size, we cannot team up with many funds. Insurance companies like MetLife deposit their money into asset managers they acquired. We want to set up joint ventures with such insurers and have them work with their own GPs.” 

▶ On private equity GP selection plans:

“We have almost zero exposure to global PE, so we need to build a portfolio of that asset class.”

“We had planned to select five to six GPs and commit a total of $300 million, or $50 million apiece, by the end of April of this year. Since I took office (in May) last year, we committed capital to Europe-focused PEFs in September and October of last year. This year, we committed only to Antares and Golub, falling short of our commitment targets for US-focused PEFs. It was because we have not received as many offers as we could. Our priority is deal sourcing.”

▶ On venture capital investment:

“Regarding venture capital investment, as a mutual aid association under the Korea Federation of SMEs, more money will flow into SMEs as we invest more in VC funds. Considering expected returns and risk factors, VC investments do not look bad. Under the plan to increase VC investments, we will look for foreign VC and PE investments."

“For VC investment, if it is difficult to find a single VC firm, we will look for a fund of VC fund managers.”

▶ On your key criterion for private debt manager selection:

“Operating history is important. In particular, we look at their performance during the 2008 global financial crisis. Some of them had already invested in private debt even before 2008. We also look at the crisis experience of GPs for overseas investments in both private and public markets.”

“In the current pandemic situation, we are keeping away from covenant-lite (loans). That is why we had difficulty in finding good investment targets and invested in only two to three (PD managers) this year.”

Write to Ri-Ahn Kim and Sang-eun Lucia Lee at knra@hankyung.com

Yeonhee Kim edited this article.

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