In the private debt space, established lender Benefit Street Partners focuses on two main strategies: a senior secured-only approach, and a second strategy that allows the manager to lend across the capital structure. Senior portfolio manager Blair Faulstich explains why, in this current market environment, the firm is sticking to the top of the capital structure.
There’s lots of talk of a downturn – do you see one on the horizon?
We expected to have seen a macro-recession already. We believe one’s coming at some point in the next couple of years. A variety of macro factors concern us and we are seeing warning signs of late-stage behaviour, including rising leverage levels, tighter spreads and a significant deterioration of credit documents, particularly at the large-sponsored end of the market. That trend is starting to work its way down into the middle market, where we are active. In this type of environment, we’re dialling down our risk, playing defence and investing our partners’ capital at the top of the capital structure. We’re not chasing yield right now; we’re chasing safety and durability. It’s a capital preservation strategy.
What type of businesses do you lend to?
A combination of private equity-backed and non-sponsored businesses in the North American middle market. We focus on the core middle market with companies that generate between $25-$100 million of EBITDA. We believe this part of the market will outperform the lower middle market in an economic downturn.
Have concerns about the macro-environment impacted the sectors you lend to?
We have always avoided highly cyclical sectors and are focused on diversification as downside protection across the portfolio.
Within each industry we continuously monitor trends and will increase or decrease our exposure to a sector to reflect that. We are not industry generalists and leverage our sector-focused analysts across the portfolio.
What are LPs worried about?
Investors are concerned about many issues, but they are often asking us about general macro-economic factors, such as trade wars, currency issues, Federal Reserve policy and political unrest. We say wait for a market reset – there will be one. That’s the time to rethink where to play in the capital structure.
Given investor caution, are LPs looking for new strategies?
LPs concerned about competition within the private debt space are looking to add niche strategies to core direct lending positions with a heightened focus on aviation finance, asset-backed lending and royalty finance.
After a future downturn, what will the private debt market look like?
It’s a crowded space and there will be a shake out of private debt managers when the next recession hits. We believe managers of scale with internal workout capabilities are best positioned to weather a downturn.
Private credit is now a permanent part of the leverage finance market ecosystem – that won’t change, but we believe there will be fewer firms.