Image commercially licensed from: Unsplash
Despite a downturn in virtually all asset classes, the future for private debt appears to be bright, according to a new report.
The Future of Alternatives 2028 report by Preqin forecasts global alternatives assets under management (AUM) to reach $24.5tn by the end of 2028. This represents a growth rate of 8% over the five-year period from 2022 to 2028. By the end of 2023, the market as a whole will reach an estimated $16.3tn AUM.
North America’s share of that market is at $1.0tn, and it’s expected to hit $1.7tn in the next five years.
Despite some challenges for private debt markets this year, most investors remain satisfied with results. Preqin reports that 90% of investors believe that private debt met or exceeded their expectations.
The private market industry has seen a huge expansion, with successes attributed to alternative asset classes such as private debt strategies. From 2016 to 2022, the industry’s internal rate of return (IRR) was 9.11%. By 2028, the IRR is forecast to reach 9.81%. The industry is currently valued at almost $13tn.
“The industry is expected to show solid growth until 2028, thanks to a gradual recovery in fundraising activity,” says Cameron Joyce, SVP at Preqin. “Softer investor sentiment is creating opportunities in direct lending, secondaries, and real assets in particular. The longer-term fundamentals behind the growth of the private markets remain broadly intact, while the market continues to evolve rapidly.”
It’s clear that in the face of several macroeconomic challenges, the outlook for private debt remains stable. Arif Bhalwani, CEO of Third Eye Capital, an alternative capital provider in Toronto, foresees those challenges as creating new opportunities for the industry.
“We are at the beginning of a multi-year cycle of reduced credit availability, higher cost of capital, and greater corporate stress and distress,” says Bhalwani. “These factors have historically benefited alternative lenders who are agile and experienced in financial and operational turnarounds.”
Bhalwani points out that mounting debt service among mid-size Canadian corporations due to higher interest rates and lower profitability will raise the risk of recession in Canada. A recent report by BIS confirms that Canadian companies spend close to 52 cents of every dollar on debt service.
“Companies have maintained a relatively low default rate in the recent past, thanks in large part to easy access to financing,” says Daniel Maccarone, the co-head of Global Investment Manager Analysis at Morgan Stanley. “But pressure on the economy could weigh on businesses that are over-leveraged. We believe ‘distressed debt’ and ‘special situations’ investing strategies may be in a position to find value in these pockets of stress. The key for investors will be to find managers that target companies with unsustainable balance sheets but ultimately sound business models.”
The Preqin report states that “distressed debt performance” is forecast for the largest increase in growth rate, from 7% from 2016-22 to 14% from 2022-28. Other strategies within the private debt asset class are forecast for few changes in growth rates.
“Companies need problem solving in this market,” says Bhalwani. “Alternative capital providers with distressed investing experience can fill liquidity gaps without having to take on significantly more credit risk.”