Green shoots emerge in fundraising climate

Green shoots are emerging in private debt fundraising after a challenging few years, with industry stakeholders cautiously optimistic about a market recovery.

Muted M&A activity, macroeconomic jitters and the so-called denominator effect, whereby Limited Partners (LPs) were over-allocated to alternatives amid public market volatility, have dampened private debt fundraising in recent years.

A peak of $240.8bn (£181.5bn) was raised globally in 2021, according to Preqin data, falling to $225.4bn in 2022 and $214bn in 2023. Just $133.4bn has been raised this year, as of 17 September.

Read more: Private debt funds close $90.8bn in H1

“Fundraising has clearly been more challenging over the last few years, but green shoots are now visible,” says Kirstie Hutchinson, a partner at Macfarlanes who focuses on sponsor-side leveraged and acquisition financing.

“There are quite simply a lot of credit funds in the market and LPs have become more sophisticated in their understanding of the terms available to them, often deploying to multiple managers.”

While industry stakeholders are cautious about the pace of recovery, there are signs that investors are taking a more long-term and balanced approach to private credit.

“Overall fundraising conditions remain tough, but data from the latest Rede Liquidity Index hints at ‘green shoots’ in the market,” says Gabrielle Joseph, managing director, head of client development at placement agent Rede Partners.

Read more: Private debt returned 9.2pc over last 12 months

“We saw a fall in the number of LPs seeking to expand their commitments to income-oriented private credit funds. This is likely related to changes in expectations for interest rates. We saw a steep rise in LP sentiment toward private credit during 2023, but this appears to now have become more normalised. LPs are planning to build out a balanced portfolio construction rather than ‘load up’ on credit in the short term.”

Despite market challenges, there have been some record fundraises in recent months. Ares Management raised $34bn for its latest direct lending fund in July, while Goldman Sachs said in May that it had attracted more than $20bn in commitments for West Street Loan Partners V.

“The exceptions are the recent standout record fundraises by large managers with well-established track records and strong diversification,” says Macfarlane’s Hutchinson. “In other words, we have seen a trend for allocators to consolidate into larger funds in a flight to scale, more risk-averse strategy.”

Fabrice Dumonteil, chief executive and founder of Eiffel Investment Group, has also seen investors opting for more established fund managers.

“We are clearly seeing some LPs consolidating their relationships with managers that have a long and stable track record (ability to deploy capital rapidly and to generate good returns without excessive risks in an economic context that requires more skills and experience to navigate) and that offer something more,” he said.

“As a further illustration of this trend, a few of our LPs even outsourced large parts of their corporate private debt to us.”

Kyle Asher, managing director, co-head of alternative credit solutions at Monroe Capital, agreed that investors are starting to allocate “considerable funds and attention to alternative credit” particularly when it comes to various asset based and opportunistic strategies that are not distressed necessarily.

Read more: Private debt AUM could hit $2.7tn by 2028

“They are viewing this as a way to complement their private debt allocation and earn higher returns,” said Asher.

Meanwhile, Timothy Lower, a founding member of Ares’ direct lending business who is now chief executive of Willow Tree Credit Partners, added that the recent Federal Reserve rate cut should stimulate M&A activity and loan issuance supporting new platform acquisitions.

“As M&A activity resumes, distributions to LPs should stimulate more robust fundraising across alternatives as investors re-deploy returned capital,” Lower said.

“Investors have recently voiced an increasing appetite for core and lower middle market strategies over upper middle market due to concerns about portfolio overlap among managers and lack of diversification; slow deployment due to the resurgence of the CLO market and decreased M&A activity; and poor documentary standards that may challenge recoveries.”

A report from Preqin, released last month, also suggested that lower-than-expected rates could be beneficial to the private debt sector. But ultimately, a recovery in fundraising is unlikely to happen overnight.

“Our research shows us that momentum is building slowly, with LPs becoming more confident, particularly in sectors like healthcare, technology, and lower mid-market buyouts,” said Rede Partners’ Joseph.

“However, the exit environment, including M&A and IPO activity, will play a crucial role in any further recovery. A full-blown recovery in fundraising will depend on broader market conditions and LP liquidity. Fundraising success will continue to be hard-won for the foreseeable future.”