Displaying items by tag: debt
What Interest Lower Rates Means for Private Credit
Interest rates are on the decline, yet economic growth remains steady. As the year wraps up, investors are feeling optimistic despite some slowdown in growth, which is occurring gradually rather than sharply.
With more clarity around interest rate movements, Alliance Bernstein anticipate increased investor confidence, which should spur capital formation and boost private market transactions. Lower borrowing costs, following the sharp rise in recent years, are expected to encourage mergers and acquisitions as well as demand for middle market loans.
Additionally, the trend of bank disintermediation is creating new opportunities for private credit investors to diversify and grow their portfolios. Overall, navigating this evolving economic landscape will require a focus on quality and thoughtful diversification to manage risks effectively.
Finsum: We expect lower rates to facilitate further expansion of private credit as there is more consumer spending to support investments.
Strong Private Credit Push From Golub
Golub Capital is increasingly active in trading private credit deals, reflecting a broader trend in the industry as interest in secondary markets for direct loans grows. The firm traded approximately $1 billion in private debt during the first half of the year, positioning itself as a key player alongside others like JPMorgan Chase.
While secondary trading in the $1.7 trillion private credit market remains relatively uncommon, there's growing demand for liquidity and flexibility among investors. However, some industry participants argue that trading could undermine the appeal of direct lending, which traditionally offers privacy and stability.
Despite this, Golub and other firms are exploring these markets, balancing the benefits of liquidity with the traditional advantages of private credit.
Finsum: For investors not concerned with liquidity, private credit could prove a strong investment in this fall cycle.
Growing Concerns Over Private Credit
At the annual Milken Institute Global Conference, many expressed concerns that, as rates remain elevated, there is increasing liquidity risk for some borrowers. So far, robust economic growth has masked these underlying issues, but many borrowers would be vulnerable in the event of an economic downturn.
So far, default rates have remained low. Skeptics contend that this is due to amendments made to loan terms, leading to maturity extensions and payment arrangements. Ideally, these maneuvers would buy time for borrowers until monetary conditions eased.
Yet, economic data has not been supportive of this outcome so far in 2024, leading to more stress for borrowers and concerns that defaults could spike. According to Katie Koch, the CEO of the TCW Group, “This cannot be extended forever. Eventually, those default rates will rise.” Danielle Poli adds, “It is going to be ugly. Many of these companies are burdened with excessive leverage, with holes in their covenants like Swiss cheese.”
Some investors sense opportunity as there has been an increase in bridge loans to borrowers, searching for liquidity. Oaktree Capital has reduced exposure to syndicated loans and raised cash levels to take advantage of any dislocations. In addition to bridge loans, there is also increasing demand for hybrid capital, which is in between senior debt and equity and provides liquidity and cash flow relief to borrowers.
Finsum: At the annual Miliken conference, Wall Street heavyweights warned that as rates remain elevated for longer, borrowers are getting more stressed and that a spike in defaults is looming.
Advisors Missing Huge Opportunity in Structured Notes
Cerulli Associates' recent report predicts substantial growth for structured notes, debt securities linked to underlying assets, in the upcoming year, prompting advisors to take heed of this emerging trend.
Despite their reputation for being illiquid, inaccessible, and costly, structured notes are gaining traction, with only about 22 percent of advisors currently incorporating them into their strategies, but the landscape is changing, with roughly 8 percent of advisors planning to adopt structured notes within the next year matching industry standards with the likes of hedge funds and private debt.
While alternative investments pose challenges for many clients, Cerulli's findings reveal advisors' concerns about the lack of liquidity and product complexity associated with structured notes, alongside hurdles related to expenses and subscription/redemption processes. Nonetheless, asset managers are adapting by targeting retail investors and partnering with advisory firms to introduce structured notes capabilities. Advisors could be missing out on a key alternative to improve the performance of clients portfolios.
Finsum: Liquidity concerns should come down as the interest rate schedule becomes more certain and advisors should consider assets that are traditionally less liquid such as structured notes.
Implications of a New Regime in Fixed Income
The last 40 years have been defined by lower inflation, creating a generous tailwind for fixed income. Now, AllianceBernstein believes that we are in the midst of a transition to a new regime that will feature lower growth and higher inflation. In this environment, the firm believes that fixed income investors need to make appropriate adjustments.
It believes that inflation will be structurally higher in the coming decades due to deglobalization and demographics. Deglobalization means that supply chains will be reshored, undoing some of the deflationary trends of the last 40 years, and it will result in higher inflation due to greater manufacturing costs and wages. With an aging population, there is a smaller pool of available workers, which will also contribute to inflationary pressures. Both deglobalization and demographic trends will weigh on economic growth as well.
Due to these factors, AllianceBernstein forecasts that 2% inflation is now the lower bound rather than a target. It believes that frequent spikes in inflation, as experienced from 2021 to 2022, will also become commonplace. This is a consequence of governments with large amounts of debt and future liabilities. Policymakers will be incentivized to ‘inflate’ away the debt rather than make painful cuts to spending. Additionally, lower rates will help contain financing costs.
Finsum: The last 40 years were great for fixed income due to inflation trending lower along with interest rates. AllianceBernstein believes this era is over, and we are moving into a new period defined by lower growth and higher inflation.