Taking a Disciplined Approach is the Key to Delivering Attractive Risk-Adjusted Returns
The trends and dynamics underlying the European private credit market have shifted considerably in the past decade, splitting into two distinct ends of a spectrum. Banks, at one end of the spectrum, have been restricted to holding smaller pieces of debt following the financial crisis. Regulations under Basel III imposed additional capital requirements and heightened underwriting standards on banks, forcing them to simplify and reduce leverage, which has impacted their ability to lend to borrowers. A private equity house considering a €150 million debt funding requirement, for example, may have to seek out as many as 10 banks to source the capital, which creates complexity.
At the other end of the spectrum is the broadly syndicated loan market, which is typically focused on debt packages of €250 million and above. This market is relatively liquid with larger pools of capital providing financing to typically larger companies. As such, there tends to be more competition in this part of the market, which can result in fewer protections for the lender in the form of financial covenants.
In between the two distinct ends of this spectrum is what we see as a gap in the market for direct lenders to fill the shortage of capital. Lenders with the ability and willingness to meet the financing needs of middle-market companies have gained access to a diverse set of investment opportunities with a potential yield premium compared to the broadly syndicated loan market, with enhanced downside protection in place. From a borrower’s standpoint, it’s also a nice solution because they can lessen complexity and be more efficient by using just one capital provider.