5 trends we expect to impact private credit in 2024

While 2023 was a very attractive investment hunting ground for our clients and funds, it also didn’t contain the level of economic dislocation we were expecting. However, 2024 may yet prove to bean even more opportune time to deploy capital. We have summarised where we believe you should watch for opportunity in the private credit space in 2024.

1. Unexpected resilience will become delayed dislocation

As Australia dodged recession in 2023, stress in the financial system was lower than expected.Consumers adjusted to the higher rate environment, thanks in part to employment levels staying steady (amidst the backdrop of population growth) and record highs of household savings to draw on. This in turn cushioned some of the impact on Australian businesses, most of which were comfortably leveraged giving them a buffer against market conditions.

Businesses adapted periodically to the challenges, implementing (short-term) initiatives and streamlining operations. Meanwhile, many providers of capital were lenient, giving some space to struggling businesses. While we’ve certainly seen a shift from borrowing for growth to borrowing to consolidate balance sheets and strengthen positions, Australian businesses and consumers found ways to ride out the year.

But, while inflation is beginning to fall slowly, it will be a hard road to the RBA 2025 target of 3%,and we anticipate prolonged high interest rates over the next few years as well. Broadly, we expect the resilience of this year to continue into next, but many short-term tailwinds from 2023 will be unsustainable in the longer term – from financer patience, to halting R&D or marketing and the growth impacts of deferring capex – and pockets of financial stress are likely to widen and volatility increase.

‍

2. Traditional lenders will get more nervous, further drying up capital

As this stress and volatility ramp up, and geopolitical tensions drag on, traditional lenders – bank sand credit funds – will further tighten their risk parameters in a binary manner, reflecting their risk appetite. As a result of diminished supply, companies and asset owners will find themselves further constrained to raise capital in the usual ways – borrowing from banks or raising equity in traditional markets – leading to market dislocation.

‍

3. Gold sits undiscovered in market

Consequently, these borrowers will look elsewhere for funding. As IPO markets remain largely closed, bankers and advisers recommend alternative borrowing structures to businesses. Many will find an answer in flexible private credit providers, better structured to apply more creative solutions to businesses’ borrowing needs. This will raise the quality of counterparties looking to access private credit, creating richer opportunities for investors.

Unlike most lenders, Realside doesn’t focus on specific sectors – instead we look opportunistically across the market – but we do expect particularly rich veins of opportunity in these sectors next year with strong risk-adjusted returns:

1. Real estate is particularly sensitive to interest rates and the sector is undergoing an adjustment cycle in response. We saw assets come under pressure from rising rates in 2023, increasing difficulties for developers to build new assets and stranded projects under construction with financiers losing patience or exhausting funding lines. Pockets of the market (e.g., residential) continue to be undersupplied however, so there are strong opportunities for private credit where owners of quality assets have become overextended and need liquidity to continue to operate successfully. Such instances can offer equity-like returns for investors and rescue stranded high-quality assets while still preserving investor capital from the recovery value of the asset. It’s a rare win-win-win situation: good news for businesses, good news for private credit investors, and good news for the economy and housing market.
2. We expect strong deal flow in financial services, particularly those that on-sell financing solutions as they are capital-hungry businesses; requiring ongoing capital to build operational scale while often able to recoup higher borrowing costs.
3. With continued uncertainty in global markets, we expect an influx of commodity-backed deals, especially at the smaller end of the market, because these are particularly hampered by funding shortages.

In mining, we have recently identified an opportunity that perfectly illustrates the value sitting in the market for those with the capabilities to tap into it. A collection of gold mines (with long operating histories in a highly regarded gold basin) were abandoned by major global developers because they are small, non-core projects that are now too difficult for them to solve. Stockpiles of unprocessed gold were waiting to be made marketable (coupled with large, un mined gold reserves)and all that was missing was an injection of capital, correctly applied with deep private credit expertise. The risk to investors remains very low as the existing stockpiles of gold can be reprocessed multiple times over to recover capital, without relying on the company to process newly mined gold reserves. The private credit market in 2024 will be like this across many sectors –with hidden gold waiting to be turned into strong returns.