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AS COVID WINDS DOWN, DEMAND FOR PRIVATE DEBT SURGES

November 22, 2021

When the pandemic began, no one knew for sure what the economic impact would be. Many worried that it would mean a repeat of the dark days of the 2008 credit crisis. And although a post-crisis period is usually a time when borrowers are defaulting, economists have observed that default rates have instead dropped sharply and swiftly.

The U.S. economy is already roaring back. After unprecedented stimulus spending, Congress has approved a $1.2 trillion infrastructure package that will further bolster economic recovery, touching everything from airports to roads to water systems.

The degree to which the economy has bounced back continues to surprise. Now, with inflation at its highest levels since before the Great Recession, there are growing concerns about whether the economy is getting too hot.

With this frenzy of economic activity, the U.S. private debt market is growing fast. Jason Strife, senior managing director and head of private equity and junior capital, Churchill Asset Management, told Private Debt Investor: “The market is in an absolutely frenetic state right now. It’s wildly out of control across the capital structure of private debt. It’s just completely uncorked.”

There is a growing trend toward making private debt investing more available to retail investors. Ian Fowler, CFA, co-head, global private finance group, Barings, commented that this is especially true among accredited retail investors searching for yield, for whom private debt is a very attractive asset class. “You’re starting to see a lot of the wealth management platforms move into this space,” he said. “This is a trend that will continue for a while, as long as we’re in a low-yielding environment with investors searching for yield on an attractive risk-adjusted basis.”

According to Freedom Financial Funds, LLC’s Northwest Director Eric Shoemaker, “Because of low yields in other more traditionally defensive asset classes, there is no question that people continue to search out established private debt managers with strong track records. However, this is still an asset class that could benefit from greater visibility to retail investors through better communication with the RIA industry. There are a lot of mid-market debt funds out there, such as Freedom Financial Funds, LLC, with attractive risk profiles and consistent returns.”

Freedom Financial Funds is a premium alternative to local and regional banks. It manages a private REIT and separate accounts through which it responds to the financing needs of real estate professionals who are seeking capital for construction, rehabilitation, repositioning, conversion, or additions to commercial and residential properties in the Western United States. It also offers build-to-suit financing nationally.

Along with the growing opportunities in the private equity market, there are also new challenges. Competition for deals is increasingly fierce, and competition means that fund managers are being pressed to accept looser terms. Well-established players in the market who can afford to be selective about the opportunities they pursue are enjoying the upper hand.

In many instances, deal cycles are becoming compressed. It is not uncommon for processes that used to take 12 weeks to execute take only four. Platforms must move at lightning speed to complete their due diligence, since if they lag, they can easily be replaced by a competitor. As pressure on the middle market increases with regard to moving deals quickly, there is a corresponding increase in potential risk as covenant-lite deals become the norm.

Freedom Financial Funds’ seasoned team of professionals boasts more than 150 years of combined experience. Over the past 12 years, the group has originated over 400 loans totaling over $1.5 billion with an average annualized net return to investors of nearly 9% — without a single loss.

These consistent results are the product of The Freedom Method, an approach to loan evaluation that creates speed and efficiency while mitigating risk. It turns on selecting reputable, credit-worthy sponsors and curating deals that create value and ensure that there are multiple pathways to success.

Over the last few years, investors have observed that middle market private debt delivers a lucrative yield premium and is a solid risk-reward trade. Timothy Lyne, chief operating officer, Antares Capital, advises, “If you’re one of those investors looking to allocate to the space, you want to find a GP that has a very strong originations franchise and deep sponsor relationships so they can be highly selective in choosing the right credits.”