Time for reflection as the cycle turns

It’s awards submission time, and we anticipate being reminded of manifold achievements over the last year – even as the market prepares for a stern challenge ahead.

As we approach the end of 2022, it’s been a year of resilient activity for private debt – fundraising and deals have held up reasonably well – but also one of increasing caution. So far, market participants have not been tested to the hilt and we’re expecting there to be plenty of good news stories as we receive nominations for our annual awards. You have one week left to get your submissions to us.

Anecdotal reports suggest portfolio companies have performed well on the whole, still buoyed by swift recovery from the covid shock – albeit with some of the momentum now fading. Many of these companies have been successful so far at passing on added costs arising from inflation and climbing interest rates have meant increasing yields. Added to which, interest coverage ratios are generally robust. It could all be a lot worse.

But you won’t be surprised to hear there is some trepidation heading into 2023, and it may prove to be the case that, when the awards submissions filter through in a year’s time, the highlights will reflect resilience in the face of stern challenges. Interest coverage ratios may be holding up so far – if rates continue to rise at a rapid clip and stay higher for longer, the dam may break at some point.

In the face of the economic and political volatility, fund managers are understandably gravitating to smaller holds and bigger syndicates – but this creates an unwelcome tension with their desire to retain as much control as possible should things start to go wrong. In the face of likely higher default rates, there is a renewed focus on ensuring that managers are well staffed with restructuring experts.

In the deals market, huge reserves of private equity dry powder should ensure the pipeline is in no danger of drying up. Much of the current focus is inward as fund managers look to grow their existing portfolio companies. Little doubt that 2023 will be the year of the buy-and-build in the sponsored market, even if consolidation of industries begins to raise some antitrust concerns.

In fundraising, it’s a game of cat and mouse as LPs wait to see how fund managers respond to a new environment for valuations, while also wrestling with the denominator effect. GPs tell us that LP commitments are being pushed back, sometimes by as much as six months, as investors wait to see how the pieces of the puzzle land.

Some say US appetite for leveraged funds is diminishing as appetite for unlevered vehicles increases. It’s a sign of the times. Conservatism and caution are in fashion at the end of what has been a long cycle of relatively untroubled prosperity.

Write to the author at andy.t@peimedia.com