In all sorts of ways, 2018 has been quite a year. Surely 2019 will struggle to produce half as much excitement? Don’t bet on it. Here are some of the key talking points as a new year fast approaches.
1. Deal structures reach a breaking point: The end of the cycle has been the subject of speculation for so long that maybe there is a waning belief it will ever happen. But, as 2018 draws to a close, stress in the system appears to be moving from theoretical to tangible. Concerns about deal terms started with covenant-lite, but some argued this was a red herring since it was more of an issue for syndicated loans than the mainstream private debt market. Of growing concern is the minutiae of deal agreements. There are anecdotal reports that some deals based on unrealistic EBITDA adjustments are now running into trouble – this having crept up on the margins of the covenant-lite debate as a major concern.
2. Europe’s political pressures intensify: In August, a study by S&P concluded that politics posed a bigger threat to Europe’s credit markets than underlying business performance. Four months on, we have frequent and spectacular contortions around Brexit and mass anti-government protests on the streets of Paris – to which may be added ongoing political turbulence in Germany and the rise of populism in Italy. On top of this looms the risk of growing trade tensions between Europe and the US. The question for private debt is whether all this political risk has been appropriately factored into pricing.
3. Special sits and distressed investors primed for action: Should the cycle finally turn, it doesn’t spell doom and gloom for everyone. When we caught up with Marc Lasry at our New York Forum earlier this year, he predicted the next distressed cycle will come within a year or two – and plenty of capital has been raised in anticipation of that. Special situations investors also stand to benefit, though they like to point out that theirs is a strategy for all seasons, come rain or shine.
4. Over-reliance on the private equity market: A Deloitte survey revealed that, in the first quarter of this year, the non-sponsored share of the private debt deal market stood at just over 17 percent. For some time prior to that, much talk had been about how this part of the private debt universe would grow its share – and yet, back in Q1 2015, that share stood at a little more than 22 percent. As non-sponsored deals shrink, does this mean sourcing new deals becomes a challenge as and when the private equity boom comes to an end? The cost of setting up the infrastructure required to root out opportunity among family-run small businesses is high – but is it higher than the cost of failing to undertake contingency planning?
5. ESG and diversity rightly in the spotlight: The appointment of Eimear Palmer at ICG this week provided further evidence of the determination of fund managers to make ESG a fundamental part of their investment processes. The argument that private debt firms can merely sit on the side-lines as ESG issues are taken care of by private equity firms is no longer tenable, if it ever was. Expect diversity to also claim its place as a key talking point (and hopefully not just a talking point) in 2019. There is much still to be done.
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