The primary business of a bank is accepting deposits and making loans, frequently using the money from the deposits to make the loans. If, for whatever reason, many depositors want their deposits back, the bank has a problem, not only because that money might be invested in the loans (the bank run that happened to SVB a few weeks ago) but also because the bank is no longer in the position to provide loans.
This is happening in the current global banking crisis. As banks are facing increasing scrutiny, fewer loans are being granted, and the criteria become much more stringent, with consequent delays and inefficiencies. At the same time, borrowers that rely heavily on banks for their liquidity needs might want to have diversified sources of liquidity. Direct lending funds are standing to benefit from the current environment.
Direct lending refers to the practice of providing loans mainly to companies without intermediaries such as investment banks. These loans are originated and held by the lender, instead of broadly syndicated. Lenders focus on the top of the capital structure, investing primarily in senior secured first-lien debt. Albeit already present, this strategy grew substantially after the 2008 financial crisis, as commercial banks could no longer lend to middle-market and lower-middle-market companies due to new regulations and economics.
There is still a significant amount of dry powder in direct lending, according to Prequin data. In the 10-year period between 2012 and 2022, the mid-market private debt dry powder more than tripled, from USD 40bn to USD 145bn. The dry powder has grown in line with the overall private credit market, which over the same period has increased from USD 340bn to USD 1340bn. The
Direct lending has traditionally focused on mid-sized businesses and has, in recent years, expanded into larger buyout financings. The current bank crisis gives private credit funds the opportunity to expand into smaller businesses as well as consumer loans.
Venture companies are another market of interest for direct lending funds. Start-ups were particularly hit by the SVB crisis, as it was the bank of choice for most of the venture community, and these companies still have liquidity needs.
Private debt funds are showing that they are open to discussing deals and terms, and this is giving confidence in a market that would otherwise be much less liquid.
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