Almost five years ago, PDI was launched. In recognition of this, we have been enjoying regular conversations with market professionals about the defining events in private debt from then until now. Look out for our upcoming “five-year” coverage, in which you will find plenty of fascinating insights into the evolution of an asset class.
Many of those we spoke to reflected beyond the last five years to a time when junior capital was the only game in town. Prior to the 2007-08 global financial crisis, there was little point competing for senior debt mandates, sources say. The banks were in their pomp and prepared to be highly aggressive – mezzanine funds trying to do anything other than provide their somewhat commoditised product would have been viewed with scepticism.
We all know what happened next. Amid the post-GFC banking carnage, private debt funds were able to keep the wheels turning for many businesses that no longer had anything like the access to capital they had become used to. By gaining a reputation for flexibility in their product offerings and for speed of execution, funds staked their claim to be recognised as the new relationship lenders as many banks retreated to the sidelines.
Over the last five years, the direct lending market has been well supported by investors due the ‘bank replacement’ dynamic. But what has also been seen, and will perhaps be the defining characteristic of the next five years, is diversification.
Geographically, we have seen private debt funds move out from the US and UK into mainland Europe and gradually into Asia -Pacific. Sources tell us fund managers are now much keener to try to find a way into jurisdictions with unfavourable laws and regulations rather than simply dismissing them as untouchable. As investors demand more diverse portfolios, this trend will inevitably continue.
In a product context, unitranche seemed highly exotic when it first arrived on the scene. Since then, private debt funds have branched out into a broad range of product offerings and structures including first loss/second loss, first lien/second lien, subordinated debt, PIK and preferred equity investments.
One point made in our conversations is that the focus of investors today is less on individual strategies and more on delivering a particular outcome – almost regardless of the means used to obtain it. Andrew Konopelski, partner and head of EQT Credit, captured this well when he told us: “Investors have by now become more familiar with the personalities and idiosyncrasies of different firms and more comfortable with how and where they invest. It will increasingly be a case of ‘I trust you with my money – here it is, invest it well’.”
From relationship lenders to a whole new level of trust. The next five years will be interesting.
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