“I'm very surprised and a bit disappointed,” was how Paul Shea, co-founder of UK fund manager Beechbrook Capital, described his feelings at PDI’s Germany Forum in Munich. His pronouncement was made on the morning of 24 June, hours after the UK had voted to leave (by way of a highly protracted process) the European Union.
Shea was speaking during the first panel of the morning on the second day, a panel ostensibly about the state of the global economy which was – for understandable reasons – dominated by the events unfolding in Britain (murmurs were heard in the room when chairman Richard von Gusovius of placement agent Campbell Lutyens mentioned the resignation of Prime Minister David Cameron).
Assembled for coffee and pastries before the second day began in earnest, delegates huddled in small groups, engaged in intense conversations that betrayed the significance of the political events taking place. The fact that pretty much every seat was filled as the second day’s agenda commenced provided evidence of a hunger to hear what peers had to say and whether they could help to make sense of it all.
“We have a European fund which is heavily exposed to the UK, where around 43 percent of private debt deals done in Europe take place,” said Nicole Waibel, managing director at fund manager Crescent Credit Europe. “We’ve been quite busy preparing a note to investors about what the next steps are politically, how much of an effect there is on the portfolio, and the way forward.”
Despite the shock at the outcome of the referendum – in a poll the previous day, more than 70 percent of delegates at the event had predicted that the UK would vote to remain in the EU – Waibel’s forward planning served as a reminder that a practical response was required even though emotions were running high.
Others were also plotting a way forward. For example, Chris Gardner, a private funds partner at law firm Dechert, said his firm was preparing a client note about the impact of Brexit on passporting rules and the attractiveness of the UK as a domicile for funds.
Moreover, while few were feeling confident enough to contend that every cloud has a silver lining, there was nonetheless just enough positive sentiment in the room to raise spirits. Shea even managed to inject some humour, contending that the consistently bad weather in Britain would mean that the indoor trampolining business backed by Beechbrook would always have a steady flow of customers – regardless of Brexit.
Waibel picked up on the point that a lot of UK businesses are “very UK-centric” as they tend to be based around outsourcing and services rather than production and exports – and this meant that many would not be too exposed to whatever the new challenges may be of trading with other European countries.
Putting a brave face on things, Shea concluded the panel with the words: “There won’t be a terrible outcome unless countries completely stop trading with each other. There are grounds for cautious optimism.”
It has to be conceded, though, that optimism was in greater supply on the first morning than the second. Marc Ciancimino, head of European credit at KKR, was moved to say that “from our point of view, volatility is good. Every time it happens, it’s a great opportunity for private debt”. It should be stressed that this was said before the UK vote and it’s unclear whether he had quite so much volatility in mind as that which transpired 24 hours later.
Abhik Das, a private debt principal covering Germany and Switzerland at BlueBay, reflected on the evolution of the asset class when he said: “When we started our private debt strategy in Germany in 2011 no one knew about private debt and they didn’t understand it. Today private debt players are much more established and sometimes get invited exclusively to sale processes instead of the banks.”
Moreover, there was an almost universal view that the opportunity for private debt is here to stay. In a poll of the audience, 93 percent of voters agreed with the statement that private debt represents “a structural opportunity”, compared with 7 percent seeing it as “a temporary opportunistic opportunity”.
Buoyed but seemingly not surprised by the poll, Hans-Joerg Baumann, chairman of alternative investments firm Swiss Capital, said: “There is a trend in the industry which is unstoppable. There is a huge market in private debt and the appetite from institutional investors is a given. After all, where else are you going to make money? The growth we’re seeing is pragmatic and market-driven.”
But while that poll elicited nods of agreement, a subsequent one suggesting that most of the appetite for accessing private debt opportunities came from insurance companies resulted in a more sceptical response. Baumann said he didn’t think it was correct, while Rafael Torres Boulet, head of Iberian private debt at fund manager Muzinich & Co, made the point that Solvency II can be a deterrent for insurers.
“There’s a lot of noise around it,” he said. “You need to do your homework on the capital charge required, but for healthy insurance companies it’s not an issue and I think some use it as an excuse not to invest.”
STEPPING INTO THE GAP
On a panel exploring areas of growth for private debt – whether geographic or strategic – Franz Hoerhager, a founding partner and executive director at fund manager Mezzanine Management, pointed to the EU accession countries where, in his view, private funds have an even more compelling opportunity to step into the gap vacated by the banks than elsewhere.
“Most banks in CEE are owned by Western European banks and, with Basel III, many of them are pulling money back from the region to concentrate on their main clients in Western Europe and invest in their most profitable relationships. With SMEs there is a huge opportunity on very good terms as the banks leave the space wide open,” he said.
Certainly, some of the performance figures stated by Hoerhager would appear to provide evidence of a compelling opportunity. He said the firm had seen an internal rate of return of about 15 percent in Poland and the Baltics and 18-20 percent in Romania, Bulgaria and the Balkans.
In the Nordic countries, according to Jakob Lindquist, co-founder and chief executive officer of fund manager CORDET Capital Partners, the opportunity is quite different – rather than moving into a space vacated by the banks, it’s about teaming up with a strong resident banking community.
“In the Nordics, it’s a healthy banking system. To be successful, you have to be locally entrenched and work with the suppliers of credit capital,” he said. “We work with the banks to provide bespoke solutions, and you need a heavy presence in the market.”
The discussion then moved on to strategic points of differentiation. “The market is so vast that you have to ask yourself what kind of risk profile you want,” said Trevor Clark, who established the mid-market direct lending loan business at fund manager Angelo, Gordon in 2014.
“There’s a ton of sponsored and non-sponsored opportunities,” he added. “We have decided to go where execution is really valued and so we went to the lower mid-market. We also decided to go with private equity-backed deals where the flow of deals is very strong and you’ve got good due diligence and credit quality. It’s not necessarily the highest return but there are good risk mitigants.”
By the time the event had drawn to a close, the issue of risk mitigation was of course an issue that had grown in significance. Nothing much seemed very certain any more – other than that the next gathering of PDI Germany in 2017 will no doubt be looking back on a very interesting 12 months.