He Brought Private Credit to the Masses. Now the Masses Are Fleeing.
Stephen Nesbitt’s Cliffwater is racing to calm investors after steep withdrawals
By Gregory Zuckerman and Peter Rudegeair
Cliffwater, a private-credit firm, faces investor withdrawals and restricted redemptions from its largest fund, CCLFX.
Stephen Nesbitt is private credit’s chief evangelist.
His investors and the industry are having a crisis of faith.
For more than a decade, the 72-year-old championed the hottest asset class on Wall Street.
His firm, Cliffwater, went from managing no money to nearly $50 billion on the back of impressive fundraising and big gains, turning Nesbitt into a billionaire.
Now, many of the wealthy individuals who powered Cliffwater’s rise are itching to leave, as investors rethink their views on private credit.
After a handful of high-profile defaults, investors are pulling so much money out of industry funds that managers are restricting withdrawals.
Shares of big firms are dropping.
Cliffwater CEO Stephen Nesbitt CliffwaterFew are like Cliffwater, which until recently was an investor darling but now finds itself in the hot seat.
Its top executives aren’t lending specialists themselves.
Instead, the firm invested alongside, and sometimes in, other funds, a feature that is now being treated as a vulnerability.
Investors asked to pull the equivalent of 14% of its biggest fund in the first quarter.
Wall Street skeptics who long questioned Cliffwater’s growth are now calling it a “canary in the coal mine” and a “turducken” of problems, given its entanglement in other funds.
Nesbitt’s ability to quell the fears will be a test of his funds’—and the industry’s—future with a mass audience.
“Cliffwater is the poster child for success in semiliquid funds,” said Brian Moriarty, a senior researcher at Morningstar, referencing the type of fund that allows investors to cash out slowly over time.
“But they haven’t had to manage through a downturn, and that kind of experience tests a firm.”
Cliffwater executives, including Nesbitt and his son, Chief Investment Officer Blake Nesbitt, are trying to reassure clients.
They are hosting calls with investment advisers and defending their democratization of the private-lending world.
“It is no surprise the Wall Street establishment does not want this product to succeed,” Blake Nesbitt wrote on social media last week.
To Cliffwater executives, the criticism is no different than what Jack Bogle received when he created the first low-cost index fund at Vanguard.
“We will wear it as a badge of honor instead of a Scarlett [sic] Letter, as we aspire to one day be welcomed into Mr. Bogle’s fine company,” Blake Nesbitt wrote.
A grave digger
Nesbitt, who grew up near Rochester, N.Y., worked as a grave digger in high school.
He spent a quarter-century at Wilshire Associates, consulting for pension funds and others on private equity and hedge funds.
Nesbitt was a soft-spoken presence in a business of outsize egos, said Greg Williamson, a longtime pension-fund executive.
“He didn’t preach like others,” Williamson said.
“He spoke about his clients’ needs.”
In 2004, Nesbitt started Cliffwater.
After the 2008-09 financial crisis, he began recommending private credit just as banks were pulling back from lending to riskier companies, giving Blackstone, Ares and others the opportunity to make high-interest-rate loans.
Nesbitt became a private credit advocate: Cliffwater launched an index tracking performance, the firm shared research and Nesbitt wrote two books on the topic.
In 2019, he shifted to managing money, launching Cliffwater Corporate Lending Fund, or CCLFX, with Blake and Phil Hasbrouck, a then-30-year-old executive.
They marketed it to wealthy individuals through independent financial advisers, the kind of clients Hasbrouck worked with.
CCLFX was built as an interval fund—offering to buy back 5% of its assets each quarter from investors and providing daily updates on its value.
It charged lower fees than some rivals and allowed clients to avoid the messy tax-filing requirements of traditional private funds.
By February, CCLFX’s net assets totaled about $33 billion.
Cliffwater made $375 million in fees from the fund in the 18 months that ended in September.
A 54-person crew researched and managed the portfolio of 4,100 or so underlying loans.
Along the way, Cliffwater wrangled with rivals.
When an executive at bond powerhouse Pimco said the returns of private debt didn’t compensate investors for its growing dangers, Nesbitt sent investors a letter saying Pimco had a “failed track record” of predicting market changes.
After JPMorgan Chase boss Jamie Dimon used a cockroach analogy to warn about looming defaults, Nesbitt declared there were “No Cockroaches in Private Debt.”
Others criticized Cliffwater’s marketing, especially when it boasted of hedge-fund-like returns with minimal risks, citing industry metrics like Sharpe ratios and standard deviation.
Critics said private loans rarely change hands, so they lack the volatility that funds face.
The “turducken” problem
The sentiment started shifting on private credit last fall.
At Cliffwater, so many asked for their money from CCLFX in the first quarter that it said it would only pay 50% of the requests.
One reason Cliffwater is in focus is its close connections to other funds.
About 70% of its money is in loans that Cliffwater has made alongside other fund managers.
The other 30% is in others’ investment vehicles.
Meanwhile, CCLFX may have to fulfill about $10 billion in commitments to various loans and funds, according to S&P Global Ratings.
That could create a cash crunch if redemptions mount, though S&P found it had enough borrowing capacity and resources to offset that exposure.
Hedge-fund manager Boaz Weinstein called Cliffwater’s model of lending to other lenders a “turducken” problem because of the layers of funds.
Kieran Goodwin, a partner at Weinstein’s Saba Capital, called Cliffwater’s growth strategy “all gas, no brakes.”
“The quality of Cliffwater’s portfolio isn’t the question,” said Leyla Kunimoto, founder of Accredited Investor Insights, a newsletter.
“The key will be their fundraising and redemptions.”
In recent weeks, Nesbitt and his team sought to reassure wealth advisers.
Cliffwater told clients it could handle two years of paying out 5% redemptions without any inflows or asset sales.
It said it expects a sufficient number of its underlying loans to mature or turn over each quarter and can access cash using an existing credit facility or by borrowing against its positions in other investment vehicles, according to a communication viewed by The Wall Street Journal.
Cliffwater also recently sold an interest in a roughly $1 billion loan portfolio that it will continue to manage, people familiar with the matter said.
Last week, the firm sent investment advisers a list of talking points they could use in conversations with clients.
CCLFX, for example, was the only one of its peers “to have withstood the Covid market downturn in 2020.”
(A footnote noted that no comparable funds operated during the downturn.)
Cliffwater backers note that losses are relatively low, the funds are diversified, and their average annual returns have been greater than 9%, after fees.
“Sentiment has turned negative on private credit,” said Aaron Hodari, a managing director at Arax Advisory Partners, which invests in Cliffwater’s funds for clients.
“But these funds have been designed to withstand the pressures.”
Gregory Zuckerman is a special writer at The Wall Street Journal. He's an investigative reporter and a 27-year veteran of the paper who writes about business and investing topics. Greg is a three-time winner of the Gerald Loeb Award—the highest honor in business journalism.
In the past, Greg wrote the "Heard on the Street" column and covered hedge funds, private equity and the credit markets for the paper.
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