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In Credit Markets, the Private Equity ‘Jockey’ Matters

Investors discussed the influence of private equity on credit markets during a Moody’s conference Tuesday afternoon.

Debt investors are wary of financing companies owned by private equity firms amid concerns that loan recoveries will be lower in the next downturn, according to remarks made Tuesday during a Moody’s Investors Service conference in New York.

One speaker called on private equity firms to consider “the integrity” of the loan market when seeking financing for their deals, while another expressed concern that some buyout firms may destroy value. A third speaker noted that it’s hard for companies to default even in tough times because loose lending terms have become so prevalent.

With buyout firms aggressively seeking terms favoring their position as equity owners, lender protections have weakened considerably in the loan market compared to a decade ago, according to Derek Gluckman, a senior covenant analyst at Moody’s. During a live poll taken at the conference, most of the audience, which included managers of collateralized loan obligations, indicated that terms have become too friendly to borrowers, and that corporate leverage and liquidity concerns were together the most likely trigger for a rise in defaults. 

“The tide is no longer rising,” Thomas Wong, portfolio manager and partner at Oak Hill Advisors, said during a Moody’s conference panel on the influence of private equity on corporate debt markets. When “the credit is fine, then the jockey matters.”

In other words, the style and behavior of private equity firms are important to consider in a borrower-friendly market.

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Moody’s warned last week that a swelling pool of low-rated companies mainly owned by private equity firms has been benefiting from low interest rates and healthy credit conditions. When good times end, downgrades could lead to a surge in defaults exceeding levels seen during the Great Recession, Moody’s said.

At the conference, Christina Padgett, a senior vice president in the corporate finance group at Moody’s, warned that the next default cycle could also be longer, as it’s less likely that the Federal Reserve will intervene with the same quantitative easing that it used to aid the recovery from the 2008 financial crisis. One speaker predicted that loan recoveries may be as low as 50 cents on the dollar during the thick of the next default cycle.

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