Industry Trends
Private Credit: From mid-market to real economy financier
There is a significant shift in credit markets as private lenders increasingly partner with banks to finance tangible economy assets, marking a long-term trend with substantial growth potential. Initially, private credit markets focused on corporate direct lending to smaller, middle-market companies, growing from $100 billion in 2006 to a $1 trillion market today. This growth has been driven by the advantages of private credit, such as speed, flexibility, and confidentiality, which have become more apparent during periods of market dislocation. The next phase involves deeper partnerships between private lenders and banks, enabling banks to continue originating assets while private lenders like Blackstone provide high-quality loans. This phase is expected to tap into a $25 trillion opportunity, particularly in investment-grade strategies like asset-based financing and infrastructure, driven by digital infrastructure and energy transition sectors. Private credit offers compelling economics for investors, including double-digit yields and lower risk than public loans. The investor base has expanded to include insurance funds, pension capital, sovereign wealth funds, and individual investors, who benefit from reduced intermediation and better yields. Blackstone leverages its scale, sector expertise, and access to proprietary data to create high-quality portfolios and capitalize on market opportunities. More prominent private credit managers with the necessary scale and resources are best positioned to succeed as the market evolves, anticipating increased performance dispersion among managers.
Source: Blackstone
Central European Private Equity Confidence Survey
The Deloitte Central European Private Equity Confidence Survey has been tracking investment community sentiments biannually since 2003 and has released its 43rd edition. The latest report highlights a significant and sustained increase in confidence, with the PE Confidence Index achieving its longest-ever continuous climb, surpassing the historical average to reach 118. This suggests a positive outlook for future activity levels, supported by successful fundraises and the ability of experienced PE houses to generate strong returns across economic cycles. Key findings indicate an improving economic sentiment, with 59% of respondents expecting conditions to remain stable and 31% anticipating improvement. Pessimism has notably decreased, with only 10% expecting a decline, down from 20% previously and 43% a year ago. Market activity expectations are stabilizing, with over half (51%) predicting steady activity levels and over two-fifths expecting an increase. The proportion of those expecting reduced activity has dropped to just 6%. Investor optimism about liquidity in Central Europe is also rising, with a third expecting increased debt availability and 59% expecting it to remain the same. This marks the fourth consecutive survey showing reduced pessimism. The gradual and sustained recovery in sentiment, surpassing the 20-year average, reflects cautious optimism and the experience of deal-doers who have navigated economic cycles and complex environments over the past quarter-century. Jan Brabec, Deloitte Partner, and Private Equity Leader emphasizes this recovery's encouraging nature, which contrasts with the more rapid rebounds seen in 2008, 2012, and 2020.
Source: Deloitte
Private Equity interest in lower middle market acquisitions remains strong
Private equity firms are growing interested in acquiring lower middle market (LMM) companies despite declining large M&A transactions in the first half of 2024. Dena Jalbert, CEO of Align Business Advisory Services, highlights several factors driving this trend. One key driver is the abundance of "dry powder," or available capital, which PE firms need to invest proactively. LMM companies offer lower costs, high potential upside, and business agility, making them attractive investments. Additionally, the LMM space faces less competition, allowing PE firms to secure favorable deals without intense bidding wars. These companies also present opportunities for operational improvements and value creation through buy-and-build strategies. Valuations in the LMM space are more reasonable and stable than larger companies, allowing PE firms to spread risk across multiple acquisitions. The current economic environment of higher borrowing costs has given well-capitalized PE firms a competitive edge, as they can pursue deals while others struggle with financing. Sectors attracting significant PE interest include healthcare and technology, home services, software and tech-enabled businesses, industrial services and specialty manufacturing, and consumer products with a strong e-commerce presence. These sectors are resilient to economic cycles and offer clear growth opportunities. Overall, the strong interest in LMM companies underscores their strategic value, helping PE firms diversify their portfolios. The current landscape is favorable for LMMs seeking exits or investment opportunities, indicating that the PE interest trend in LMM acquisitions will likely continue.
Source: Global Banking & Finance Review
Market Sentiments
Investors see ‘Golden Age’ of private credit
Investors are currently experiencing a "golden age" of private credit, driven by favorable macroeconomic conditions such as higher interest rates and the use of floating-rate structures, according to a report by M Capital Group. The private credit market has expanded significantly, growing from $1 trillion four years ago to $1.7 trillion in 2023, and is projected to reach $2.8 trillion by 2028. Christian Mouchbahani, a managing partner at M Capital Group, attributes the positive outlook to the flexibility, customizability, and attractive investor-risk returns of over 10% offered by private credit, along with an illiquidity premium that maintains a spread of 200 to 300 basis points over-leveraged loans and high-yield bonds Investor sentiment is strong, with 58.9% of investors stating that private debt met their expectations in the past year, and 27.5% saying it exceeded expectations. Nearly half the investors plan to commit more capital to the asset class in the next 12 months. The demand for private credit is further highlighted by acquisitions, such as Janus Henderson's purchase of a 55% stake in Victory Park Capital to expand its private credit capabilities. Geographically, the US private credit market has grown from $40 billion in 2000 to $1.2 trillion in 2023, while public high-yield markets have shrunk by nearly 25% since 2021. In emerging markets, banks currently provide about 90% of corporate funding, but this could shift as Asian banks reduce their appetite for new credit, presenting opportunities for alternative lenders. The overall growth and its implications for credit markets are substantial despite nearly 30% of assets under management remaining as dry powder. Despite the challenges, prevailing trends, and favorable market conditions, private credit is striving as a viable financial solution for both investors and borrowers.
Source: M Capital Group
Avoiding Wipeout: How to ride the wave of private markets
This analysis discusses the challenges and opportunities in the private markets, highlighting that while they have grown significantly over the past decade, they are also becoming increasingly complex and competitive. Investors need to adapt their strategies to succeed in this new environment. The authors argue that the traditional approach of relying on past performance to predict future success is no longer effective. Instead, they propose a more forward-looking approach that focuses on understanding the underlying drivers of performance. This approach includes assessing the quality of a firm's management team's quality, competitive position, and market attractiveness, emphasizing the importance of operational capabilities. The authors suggest that investors should look beyond financial metrics and consider how a company operates its culture, as well as its ability to innovate. Finally, they discuss the role of technology in private markets, suggesting that digital tools can help investors make better decisions by providing more accurate and timely information. In conclusion, to succeed in the increasingly complex and competitive private markets, investors need to adopt a more forward-looking and operationally focused approach and leverage technology to make better investment decisions.
Source: Bain & Company
The private equity storm
On April 22, Nathanaël Benjamin, the Bank of England's Executive Director for Financial Stability Strategy and Risk, expressed concerns about the private equity (PE) market's current state. Despite its exponential growth over the past two decades, the industry faces significant challenges due to higher borrowing costs, market volatility, and economic uncertainty. PE has grown from $2 trillion in assets under management in 2013 to $8 trillion in 2023, creating 12 million jobs and contributing 6.5% to the global GDP. However, recent investments have dropped to $84.7 billion, and most deals are relatively small. The PE sector has thrived during a period of low interest rates, but the recent rise in rates has led to a slump in fundraising, dealmaking, and exits. Bain & Company's report highlights a 20% drop in overall deal count and a 24% decrease in exit transactions. Despite accumulating $7.2 trillion in fresh capital since 2019, the industry faces challenges finding deals, leading to a record $2.5 trillion in dry powder. The number of publicly listed companies in the US has halved over the past three decades, with many taken private by PE firms. This trend raises concerns about financial stability due to the lack of transparency. Bankruptcy filings by PE and VC-backed companies surged to 104 in 2023, a 174% increase from 2022. While there are signs of stability with moderating interest rates, cautious optimism prevails. The first quarter of 2024 shows promising GenAI adoption in investment decisions and market analysis.
Source: World Finance
Sovereign funds shift assets into reverse, turn to private debt
The 2024 Invesco global sovereign asset management study reveals significant shifts in sovereign wealth funds' (SWFs) asset allocations due to persistent inflation and geopolitical risks. High inflation and interest rates have notably impacted asset valuations, particularly in growth-oriented industries and those with significant debt. The 2024 Invesco global sovereign asset management study reveals significant shifts in sovereign wealth funds (SWFs) asset allocations due to persistent inflation and geopolitical risks. High inflation and interest rates have notably impacted asset valuations, particularly in growth-oriented industries and those with significant debt. Consequently, SWFs increase allocations to equities, infrastructure, and commodities while reducing cash, private equity, and real estate investments. Fixed income allocations remain steady at 28%, with equities rising to 32%. Illiquid alternatives account for 22% of total assets, with private equity and real estate allocations decreasing, while infrastructure and hedge funds/absolute return funds see increases. Despite cooling on private equity, SWFs increasingly invest in private debt, particularly infrastructure debt, real estate debt, and corporate lending. Most SWFs expect interest rates to remain relatively high, with 71% anticipating mid-single-digit rates. Geopolitical tensions are the top concern for 83% of respondents, followed by climate change, with inflationary fears diminishing. The study also highlights a significant shift in attitudes towards AI, with nearly all sovereign investors now recognizing its importance in their investment processes, a stark contrast to 2019.
Additionally, there is a 10% decline in SWFs with ESG policies, which is attributed to a more mature and stringent approach to ESG investing. Over 80% of respondents incorporate ESG attributes in manager selection, reflecting the growing sophistication and higher standards in ESG practices. This maturity in ESG understanding drives stricter definitions and expectations from asset managers. While the US dollar remains the dominant reserve- currency, the study reveals concerns about rising US debt levels and the potential risks associated with its continued dominance. However, finding viable alternatives has proven to be challenging, and the prospect of a unified BRICS currency is being viewed skeptically. Against this backdrop, gold is an increasingly attractive option for central banks seeking to hedge against various risks and diversify their reserves. Precious metals' status as stable, reliable, and apolitical assets has made them particularly appealing in an uncertain world. Meanwhile, the growing interest in emerging markets, particularly in Asia, reflects a broader trend towards greater diversification and the search for higher returns. While investing in these markets comes with risks and challenges, the overall trajectory is clear, with central banks increasingly looking beyond traditional reserve currencies to navigate a changing global landscape.
Source: Investor Strategy News
Sector Update
Why private equity is investing in healthcare
The promise of robust returns and societal impact drives a significant influx of private equity into the healthcare sector. Over the past two decades, PE investment in healthcare has surged from $5 billion in 2000 to over $200 billion in 2021, with an estimated $66 billion in 2023. Biopharma has emerged as the dominant sub-sector, accounting for nearly half of the total healthcare deal volume in 2023. PE firms are also expanding geographically, particularly in Asia and India, due to growing middle classes and improved healthcare infrastructure. PE firms employ a "buy and build" strategy, acquiring and scaling healthcare businesses through additional acquisitions, aiming for economies of scale and extended reach. They focus on improving shareholder value by driving efficiencies and lowering costs, although this approach can lead to higher short-term healthcare prices. Despite skepticism about rising patient costs and profit prioritization, some argue that PE can bring much-needed efficiency and innovation to healthcare. Top PE firms like The Carlyle Group, KKR, TPG Capital, Blackstone, and Bain Capital have substantial investments in healthcare, focusing on areas like mental health, chronic disease management, and healthcare technology. The sector's intrinsic demand, driven by aging populations and complex healthcare needs, remains strong. Innovations in GLP-1 medications, Alzheimer's, and cancer treatments create new investment hotspots. Regulatory changes are increasing scrutiny on pricing and cost-to-value ratios, with states like New York, Illinois, and California enacting laws for greater transparency. Investors can gain exposure to PE through listed firms or index funds, spreading risk and potentially benefiting from the sector's growth.
Source: Finimize
Big deals rule: Healthcare private equity midyear update
The "Big Deals Rule: Healthcare Private Equity Midyear Update" provides an overview of the healthcare private equity landscape as of mid-2024. The report highlights a rebound in North American deals, with significant interest in large-scale assets and IT investments. Additionally, there has been a noticeable shift of investor focus towards India. The update is authored by Nirad Jain, Kara Murphy, Jeff Woods, Justin Doshi, Sharon Fry, and Mike Vandenberg, who are partners at various locations including New York, Boston, Atlanta, and Denver. It underscores the dynamic nature of the healthcare private equity sector, driven by substantial deals and strategic investments in technology and emerging markets.
Source: Bain & Company
Mid-Year Review
U.S. private equity market recap - August 2024
This piece provides a comprehensive overview of the U.S. private equity (PE) market, focusing on key metrics such as deal activity, fundraising, exits, and leveraged loans. In July 2024, deal activity and value saw significant month-over-month (MoM) increases of 12% and 59%, respectively, although the year-to-date (YTD) deal count is down 9% compared to 2023. Despite a challenging fundraising environment dominated by mega and buyout funds, the market remains optimistic due to anticipated interest rate cuts by the Federal Reserve, which are expected to spur M&A activity. The largest deal in July was the formation of "New Paramount" by Skydance Investor Group, involving an $8 billion investment. Dry powder levels remain high at $1.2 trillion, but are expected to decrease as dealmaking picks up. Fundraising has been weak, with YTD capital raised at levels last seen in 2020. New Mountain Capital closed the largest fund in July at $15.4 billion. Leveraged loan issuance surged to $151 billion in July, driven by banks becoming more competitive in anticipation of rate cuts. The Fed is expected to cut rates in mid-September, which should provide further relief to PE firms. Continuation funds remain popular as traditional M&A and IPO exit channels are muted. The fundraising outlook suggests a challenging environment, particularly for mid-market managers, with high costs of capital and a slump in exits. Take-private deals have increased, and PE firms are focusing on value-creation strategies amid ongoing market uncertainty.
Source: Ropes & Gray
Artificial Intelligence Scope/Trends
Transforming deal execution with Generative AI
Private Equity organizations in Canada are experiencing heightened activity due to dropping interest rates and an influx of high-quality assets. This surge necessitates extensive due diligence, data analysis, and decision-making, which are traditionally time-consuming tasks. The introduction of Generative AI offers a parallel to the impact of digital spreadsheets in accounting, promising to enhance efficiency without reducing workforce numbers. GenAI tools, such as KPMG's Kleo, leverage machine learning and pattern recognition to process data and generate human-like text responses, significantly aiding in tasks like document summaries, content generation, and report writing. Investment professionals can leverage GenAI for quick wins, such as text generation support for transaction teams and meeting transcription, which familiarize teams with prompt engineering. Medium-term optimizations include applying GenAI across the investment lifecycle for tasks like news analysis, thesis testing, and financial analysis. GenAI can generate diligence questions, classify financial documents, and assist in modeling and analysis, thereby streamlining the due diligence process. In the long term, GenAI has the potential to deeply integrate into PE firms' workflows, creating a specialized knowledge base that drives value across deals. However, challenges like data hallucination must be managed with proper safeguards. To maximize GenAI's benefits, firms should establish a secure foundation, identify new use cases, and build awareness and best practices.
Source: KPMG
