Mid-cap market offers sweetest rewards, Partners

Some of the best relative value in the private debt market is to be found in the small to mid-cap market, and in particular the primary segment, according to the Switzerland-headquartered investment firm Partners Group.

An influx of capital flooding the large-cap market has fuelled an increase in leverage and stretched the risk / reward profile as a result. In the mid-cap market however, leverage has remained unchanged, as highlighted in the Partners Group Private Markets Navigator second half 2014 report.

“The extra premium earned (i.e. the spread over the large-cap segment) for investing in mid-cap transactions has increased over the past two years,” the report states. 

Juri Jenkner, co-head of private debt at Partners Group, told Private Debt Investor: “The further up the large-cap market you go, the more competitive it gets with high yield and underwriting syndicates. There is less relative value there.” After that, “it’s all about sourcing,” he said. 

Partners has a multi-asset approach but has highlighted mid-size corporates with €25-75 milion of EBITDA range as being most attractive, Jenkner explains. Below that there is also relative value to be found, though it is more prone to volatility, he adds. The firm favours companies that exhibit low cyclicality with strong business models in industries such as foods, security and IT services, education and healthcare, according to the report.

“Post-Lehman, everything was attractive. It was like being in a candy shop. But currently we’re at the stage where one has to turn over a lot of stones to find something that isn’t a sour lemon. You need to be much more selective,” Jenkner said. 

The firm looks at around 800 credits a year and has a run rate of about 50 deals a year, over the last three to four years. 

“Our deals are mainly sourced directly from GPs. For this, our activities on the private equity side are helpful, including our primary investments. We have lots of established relationships and we can then get in pre-first round bids. This has remained consistent for us, however it has also been a function of market volatility… Clearly deal flow is below 2007 levels. The remainder of our deals, about a third, is sourced through traditional sourcing channels like debt advisors,” Jenkner explained.

“We see the relative value in those transactions where we are involved pre-first bid… it could be in leading, co-arranging or arranging some form of club deal,” he added.

The report highlights Partners' role as lead arranger for the junior debt financing of French premium food producer Labeyrie Fine Foods in July this year, among other deals.

Partner’s plays in all parts of the capital structure and places a strong emphasis on “robust downside protection” or covenants, Jenkner said. He believes that both senior and mezzanine financing is benefiting from current market drivers.

Imperative to the group’s relative value strategy is the ability to source deals in the US, Europe or Asia and the emerging markets, Jenkner said.

“Our deal flow due diligence compares relative value on a global scale. For example, in the first half of 2011, there was very strong deal flow in the US, with a lot of tax exempt transactions coming to market. At the same time in Europe, you had the unusual situation of a lot of liquidity. But then in the late summer of 2011, with the euro crisis developing, a lot of relative value came into the market in Europe, which remains,” Jenkner said.

Jenkner said relative value varied a lot across other private debt asset classes but highlights UK secondary market locations in real estate and US power plants and telco towers in infrastructure, as also offering attractive returns.

“You don’t see it in core infrastructure projects as it is brutally competitive with the high yield market. But outside of that, you could get attractive mid-single digit yield for some mid-market infrastructure debt, such as a telco or US power plant debt,” Jenkner added.