- Full or partial rollback of regulations could bring banks back to market
- Private debt funds would face stiffer competition, sources say
- LPs inject more private debt over previous five years
President-elect Donald Trump’s pledge to rein in a variety of banking regulations could increase competition for private-debt specialists.
Bank-friendly policy or regulatory adjustments could pry open markets that were prohibitively expensive or cumbersome for banks under the current regime, several sources told Buyouts.
Any changes that loosen or unwind barriers to direct or leveraged lending, including Trump’s proposal to roll back Dodd-Frank reforms, would force private funds to compete with banks for deals, which could hurt returns.
“That has generally been a great thing for the private-debt funds. They’ll all talk about the banks pulling back and they’re filling the void,” one limited partner told Buyouts. “It’s absolutely less compelling, or a risk, that should be identified going forward.”
Former Secretary of State Hillary Clinton took the populist approach of spotlighting the risks of so-called shadow banking. Several sources said, however, they don’t expect the Trump administration and Republican Congress to further regulate private debt or direct lending funds.
A “greater risk is lessening of regulation of banks, allowing them to get back into the market,” Duff & Phelps Managing Director Ross Hostetter said at a roundtable discussion after the election. “If they can compete again, that’s a greater risk.”
The appetite to trim regulatory burdens for small and midsize banks is particularly acute, said panelists at a recent IA Watch panel in Washington.
“One area where I’m comfortable we will see some rollback on Dodd-Frank is with community banks, and that might have some impact on this type of lending,” said panelist Neil Simon, vice president for government relations for the Investment Adviser Association. “This is one area where relief needs to be provided.”
A bevy of post-financial-crisis rules and regulations designed to limit risk at large banks curbed traditional lending through the economic recovery. Private equity firms filled some of the void left by large and midsize banks by raising private funds, which provided new debt to companies or invested in existing loans and credit facilities.
Asset managers’ private-debt and credit arms grew quickly. One firm that exemplified the rapid expansion of private debt is Blackstone Group’s global credit affiliate, GSO Capital Partners, which amassed a record $89.3 billion of assets as of Sept. 30. GSO had just $10 billion of assets when Blackstone acquired the business in 2008.
“While banks in the U.S. are better capitalized and much safer today than before the financial crisis, market-based financing — shadow banking, if you prefer — still brings enormous economic advantages to a wide range of businesses and employees, and fills a real gap in the market,” wrote Blackstone President and Chief Operating Officer Tony James in a 2014 Wall Street Journal op-ed.
Blackstone declined to comment.
Private-debt strategies also filled a need for institutional investors whose traditional fixed-income allocations were choked by low interest rates during the economic recovery. LPs have piled into the asset class in recent years, occasionally carving out specific targets for private debt or credit within their preferred asset-allocation mixes.
Private-debt funds raised $85.2 billion in 2015, more than double the total raised five years earlier, Preqin data show. North American funds represent well more than half the total raised between 2010 and 2015.
“From an asset-allocation perspective, on the institutional investor side …. even on the retiree, it’s hard to live on a zero-percent interest rate and make that money last,” said David Larsen of Duff & Phelps, who spoke on the same roundtable. Private- debt funds “provide risk capital where there wasn’t otherwise room for those companies to grow,” he added.
Whether and how any regulatory changes would affect capital deployment is unclear. Furthermore, any changes to crisis-era reforms that furthered the popularity of private-debt strategies hinge on President-elect Trump, who has already backed away from several core policies he touted on the campaign.
“That’s a difficult part. He’s already gone back on his word on a few things here and there,” one LP told Buyouts. “The uncertainty here, it’s hard to wrap your arms around.”
Action Item: More about President-elect Trump’s transition planning: www.greatagain.gov
U.S. President Barack Obama (right) meets with President-elect Donald Trump on Nov. 10, 2016, to discuss transition plans in the White House in Washington. Photo courtesy Reuters/Kevin Lamarque