During 4Q22, clients took a new look at upper-middle-market direct lending as all-in spreads have widened by over 400 bps and lenders are able to get tighter terms. Strong deal volume was driven partially by a shift from public to private market debt financings in the recent market environment.
- As economic headwinds are expected to create stress on over-levered companies, there is a renewed interest in stressed and distressed investment opportunities.
- Demand continued to be strong for less-competitive areas of private credit with high barriers to entry and attractive risk/reward opportunities such as specialty finance, non-sponsor, lower-middle-market, and opportunistic lending.
- LPs are seeking alternative structures designed to streamline the investment process while improving underlying liquidity. A number of GPs are launching evergreen structures and private, non-tradeable business development companies as a response to LP interest.
- As interest rates declined after the GFC, private credit attracted increased interest from institutional investors.
Private Credit Fundraising
- Private credit fundraising was robust leading into the COVID dislocation, with a particular focus on direct lending, asset-based lending, and distressed strategies.
- In the current rising rate environment, a renewed focus has been placed on relative value, downside protection, and managers’ internal workout resources.
- There is also interest in strategies with strong collateral protection such as asset-based lending as well as capital solutions and distressed strategies.
- Larger sponsor-backed lending is seeing a new focus due to the disintermediation of high yield/broadly syndicated loans by private debt.
- Private credit performance varies across sub-asset class and underlying return drivers. On average, the asset class has generated net IRRs of 8% to 10% for trailing periods ended Sept. 30, 2022. Higher-risk strategies performed better than lower-risk strategies.
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