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Private Debt Q1 2023: Preqin Quarterly Update

quarterly update | insights+

By RJ Joshua, CFA

April 28, 2023

With significant macro challenges during the quarter, private debt has held up well with fundraising continuing at a fair clip, but slower than in the fourth quarter of 2022

As 2023 unfolded, markets were feeling the pressure of macroeconomic change, with continued monetary tightening making the traditional sources of credit less willing to lend. In the first quarter of 2023, private debt as an asset class has been relatively well-insulated, however, and some companies may turn to venture debt in particular in view of the disruption in the wider banking system.

Read Private Debt Q1 2023: Preqin Quarterly Update for our analysis of the latest fundraising data on private debt, and how Q1 2023 compares with previous quarters. We also examine the trends in mezzanine debt, as well as fund closes this quarter.

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Why investors are shifting to private credit

Capital is flowing into private debt, drawn to the favorable risk-adjusted returns. But with the market dwarfed by private equity, there is plenty of headroom for future growth.

What factors would you say will have the biggest impact on the private debt market in 2023?

First, there is demand for credit. Investors that would otherwise be allocating a bigger proportion of their money to private equity, venture capital, or equities, see that they can get better risk-adjusted returns in credit. We have seen market share shifting from riskier asset classes to credit. Within credit, the senior secured portions now offer better returns when compared with the past few decades.

The flipside is the question around M&A activity, because a lot of private credit is providing money for leveraged buyouts (LBOs) and there’s a problem with valuations – which need to come in a bit on the equity side because the credit is more expensive. M&A activity is crucial, but we also finance a lot of capital solutions that are not LBO-related, and that market is quite active now.

How would you describe the balance of capital and opportunities in private credit?

There is much more money for alternative equity than alternative credit. Yet 70% of the balance sheet in an average LBO is debt, so arguably private credit should be bigger than private equity. We’re seeing faster growth rates in private credit, but it still has a lot of catching up to do.

Which strategies are you seeing most interest in?

There’s a lot of interest in senior secured debt. Floating rate, first lien credit for good companies is what resonates most with our clients. We also have a lot of interest in dislocation opportunities – these are more public market investments. We had a very successful program in 2020 and also in 2022 as we can take advantage of the dislocation, which can be more acute in Europe than the USA as markets are less efficient here. And our new structured product off erings, which are floating rate and often investment-grade rated, are paying the higher spreads versus risk.

How are investors trying to minimize risk?

The primary way is through secured debt, for which we’re seeing a definite preference. And secondly by making sure the fund itself isn't levered. Having said that, whenever everyone runs away from something it becomes cheaper. We’re mostly active in first lien, but you can get paid really well for junior capital today, so we’re not ignoring it. In our structured products business, investors can buy AAA to BBB risk at mid-to-high single-digit returns, which is cheaper than what we have seen historically.

Are investors turning back to public credit markets?

Markets move very quickly. Our dislocation business invested a lot of capital last summer that has done really well, and now we’re exiting some positions at materially higher prices. Right now, the liquid corporate market looks like it is priced at fair value and collateralized loan obligation (CLO) debt looks cheap. The market changes month to month, so we are always weighing the best relative value.

Hybrid managers like AlbaCore that invest in private and public credit can find relative value between markets, which often helps to deliver strong money multiples as it's easier to compound capital over a cycle.

How might rising or high interest rates affect private debt? 

Higher interest rates put more of a burden on companies. This can put pressure on CFOs and treasurers that have not hedged all their interest-rate risk, and some will struggle with the higher rates. On the investor side, loaning money at a higher rate is great. 

There are people on the margin that would like floating rate debt. The Federal Reserve is notoriously unpredictable; rates could go to 2% or to 6%, we just don't know. For the investor, rates can be taken off the table by buying floating rate debt.

Prior to founding AlbaCore, David Allen managed CPPIB’s European Principal Credit Fund and was a member of its Investment Committee. He also held a senior role at GoldenTree, where he established and ran the firm’s European operations. David spent a decade with Morgan Stanley in New York and Hong Kong, working across M&A and investment banking before specializing as a high yield media analyst. He graduated from the University of California, Berkeley, where he earned a BA in Economics and was an all-conference rower.

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