Actively Investing Through Paradigm Shifts
PGIM asset managers highlight key trends and related opportunities that they believe warrant the most investor attention as 2025 gets underway.
Middle Market Remains Private Credit Sweet Spot
Dec 12, 2024
Macro stability and monetary easing should accelerate the M&A cycle in 2025, benefiting middle market companies with attractive risk-adjusted return profiles.
Private credit continues to garner investor interest due to its attractive yield and return potential through different market conditions. The asset class remained resilient even amid the recent Federal Reserve rate-hiking cycle. As we navigate a lower-rate environment with greater spread tightening potential, private credit should continue to offer exceptional portfolio allocation benefits given its novel return sources and capacity to enhance diversification.
MATURING INTO THE MAINSTREAM
Private credit is becoming more mainstream, increasingly filling a void among middle-market borrowers with limited capital-markets access left by banks in the wake of the Global Financial Crisis. Once considered a niche alternative strategy, private credit is now a ~$1.7 trillion asset class, rivaling the public broadly syndicated loan market in size. It is anticipated to grow at a ~10% compound annual growth rate through 20291.
EASING ENCOURAGES M&A
Private credit volume primarily stems from M&A activity driven by private equity sponsors. While the syndicated loan market historically dominated private equity funding, private credit’s growing share reflects a structural shift away from traditional bank lending. Private lenders accounted for 85% of leveraged buyouts in 2024, up from 64% in 20192. Steadying macro conditions and the onset of central bank easing helped lift M&A out of its recent slump, with year-over-year volume increasing 43% on strength at the lower end of the middle-market segment2. Lower rates should accelerate the M&A cycle in 2025 as private equity firms deploy stockpiled cash and drive stealth demand for private credit.
HIGHER SPREAD PER UNIT OF LEVERAGE WITH LESS SPREAD COMPRESSION IN MIDDLE MARKET
Source: LSEG as of 9/30/2024. Data based on first-lien debt to first-lien leverage.
MATTHEW HARVEY
Head of Direct Lending
PGIM Private Capital
Private credit showed resilience over the past two years of central bank tightening. As we move further into the easing cycle, growing confidence among borrowers should contribute to improved conditions, which should bode well for private credit demand.
MIDDLE-MARKET ADVANTAGES
Rising transaction volume is likely to drive heightened competition in large-company lending, which could weigh on yields and contribute to riskier underwriting standards in the larger-market segment. Untested companies will encounter stress as the economy slows, making it essential to carefully balance opportunities and risks. While many private credit lenders focus on the larger market, we continue to believe middle-market companies enjoy a more attractive risk-adjusted return profile marked by higher yields and lower balance sheet leverage.
Related Insights
The Private Credit Opportunity
Learn why private credit will be a key beneficiary as alternative financing needs continue to increase.
A Favourable Climate for Private Credit
PGIM Private Capital’s Head of Direct Lending, Matthew Harvey, shares his perspectives on private credit.
1Source: Preqin Special Report: The Future of Alternatives in 2029 published in September 2024.
2Source: LSEG as of 9/30/2024.
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