The Growth in Private Lending: A Comprehensive Overview
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See below for link to Matt Wirz’s article in the Wall Street Journal
In April 2022 a white paper published by Proskauer Rose LLP and the Managed Funds Association discussed how the growth of private credit funds has benefited the U.S. economy by providing “a crucial, alternative source of lending to companies and does so in a way that does not pose significant financial stability concerns.”
As the global economy continues to evolve, private lending has emerged as a significant player in the financial landscape. Alternative lenders have become increasingly popular as a source of funding for businesses and individuals alike. In this in-depth article, we will explore the growth of private lending, its impact on various industries, and the opportunities and challenges that lie ahead.
1. The Emergence of Private Lending
A. The Global Financial Crisis
The global financial crisis of 2007 served as a catalyst for the rapid evolution of the private credit industry. As traditional banks retrenched from lending activities amid increased regulations, alternative lenders stepped in to fill the void. Borrowers began to turn to private lenders for financing as traditional sources became increasingly scarce or expensive.
B. Rising Demand for Alternative Financing Options
Over the past decade and a half, the demand for private lending has continued to grow. Companies and individuals alike are turning to alternative lenders for funding due to the flexibility and tailored solutions they offer. This trend is further fueled by the current global macroeconomic environment, which has put additional pressure on syndicated offerings and other traditional lending avenues.
C. International Expansion
While private lending has grown fastest in North America, the industry is rapidly expanding in other regions as well. For example, the European private credit market has grown from $36.2 billion in assets under management (AUM) in 2012 to $187 billion in 2022, according to the Deloitte Private Debt Deal Tracker Autumn 2022.
2. The Benefits of Private Lending
A. Flexibility and Customization
One of the primary advantages of private lending is the flexibility and customization it offers borrowers. Alternative lenders are often more willing to tailor financing solutions to meet the unique needs of each borrower, making private lending an attractive option for businesses and individuals seeking funding.
B. Speed and Efficiency
Private lenders can often provide financing more quickly and efficiently than traditional banks. This is particularly important for borrowers who require funding on short notice or have time-sensitive projects.
C. Access to Capital
As traditional banks continue to face regulatory constraints and risk aversion, private lending has emerged as a critical source of capital for businesses and individuals. This access to financing has become increasingly important, particularly for small and mid-sized enterprises (SMEs) that may struggle to obtain funding through traditional channels.
D. Growth Equals Competitive Rates
With access to capital tightening, more private lending choices have helped drive private rates lower. Competition in the private lending industry has steady increased over the past 15 years. Borrowers are willing to pay a slightly higher rate, rather than go through multiply rejections from commercial lenders. Opportunities are often loss by the time the rejection notice is received.
“Because the bank processes have been so much more stringent, and borrower know what they are doing in terms of their businesses and real estate investments, the borrowers are happy to pay the extra couple of points”, states Zahra Marani LLP. She adds that “average mortgage rates in private lending have dropped by about a percentage point over the last couple of years.…”
3. The Growing Role of Private Lending in Various Industries
A. Leveraged Buyouts
Private lending has played an increasingly important role in the financing of leveraged buyouts (LBOs). With traditional banks becoming more risk-averse, private lenders have stepped in to provide much-needed capital for these transactions.
B. Real Estate
Real estate is another industry that has seen significant growth in private lending. As banks have tightened lending standards, property developers and investors have turned to alternative lenders for financing. Private lenders can offer more flexible terms and faster funding, making them an attractive option for real estate financing. In the world of private CRE lending, bridge loans can close in a matter of days, not months.
C. Infrastructure
Private lending is also playing a growing role in the financing of infrastructure projects. As governments around the world grapple with budget constraints, private lenders have stepped in to provide funding for critical infrastructure developments. A current example is in the renewable energy sector. Private lenders have taken a lead role in completing these projects.
4. The Impact of Inflation and Rising Interest Rates on Private Lending
The current global macroeconomic environment, characterized by inflationary pressures and rising interest rates, has had a notable impact on private lending.
A. Decline in Syndicated Offerings
As interest rates rise, activity in syndicated offerings has declined. This has led borrowers to seek out alternative sources of funding, such as private lending.
B. Increased Demand for Private Lending
With traditional lending avenues becoming more expensive or difficult to access, demand for private lending has continued to increase. Borrowers view private lending as a more viable option for financing in the current economic climate.
5. The Future of Private Lending
Looking ahead, it is likely that private lending will maintain its status as a growing market. The industry’s ability to provide flexible financing solutions, combined with the ongoing challenges facing traditional banks and the global macroeconomic environment, will continue to drive demand for private lending.
A. Continued International Expansion
As private lending gains traction in regions outside of North America, we can expect to see further international expansion. The growth in Europe is just one example of how private lending is becoming an increasingly important source of funding around the world.
B. Diversification of Private Lending Products
As the private lending industry continues to mature, we can expect to see a diversification of products and services offered by alternative lenders. This will provide borrowers with an even greater range of financing options, further cementing the role of private lending in the global financial landscape.
6. The Role of Asset Managers in Private Lending
Asset managers play a significant role in the private lending market, adding to their assets under management scale and diversity while also enlarging their influence in the middle market. However, the rising leverage, concentration of lending in specific industries, and the opacity of the private credit market have also increased potential systemic risks.
“Private credit investing has seen a near 25% growth over the last two decades. In 2021, private debt investing stood as a $1.2 trillion industry. Even though there was a slowdown in this type of investing during 2021, private investing funds raised more than $45 billion in Q1 2022 alone…”
A. Opportunities for Growth
The rapid expansion of private lending presents asset managers with significant growth opportunities. By participating in the private credit market, asset managers can increase their assets under management and diversify their portfolios.
B. Risks and Challenges
While there are clear opportunities for asset managers in the private lending market, they must also navigate the risks and challenges associated with this still-young and opaque market. Managing potential systemic risks and ensuring compliance with regulations will be critical for asset managers in the private lending space.
7. The Role of Institutional Investors in Private Lending
Both public pension funds and insurance companies have aggressively invested in private equity and private credit in search of returns. These investments have helped fuel the growth of the private lending market, but they have also increased the risk exposure of these institutional investors.
A. Public Pension Funds
Public pension funds have increased their investment risk to a level that exceeds that of insurance companies. This heightened risk exposure is driven by the pursuit of higher returns and the desire to reduce state and local governments’ reported liabilities.
B. Insurance Companies
Insurance companies, on the other hand, have largely opted to alter products and pricing rather than relying heavily on risky private assets. This more conservative approach has allowed insurance companies to participate in the private lending market while maintaining a lower risk profile.
8. Conclusion
The growth of private lending has transformed the financial landscape, providing businesses and individuals with access to flexible financing solutions and driving increased demand for alternative lenders. However, the expansion of private lending has also raised concerns about potential systemic risks. As the industry continues to evolve, it will be critical for all stakeholders, including borrowers, lenders, asset managers, and institutional investors, to navigate these challenges and seize the opportunities presented by the growing private lending market.
Footnotes:
1 Zahra Marani LLP, “Growth of private Lending Continuing: expert”, CMP March 2022
2 Jeffery Bartel, “ Private Credit Investing: Current Opportunities and Risks”, Forbes, March 30,2023
