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PRIVATE DEBT: SPECIAL SITUATIONS – CREDIT
Securitized Assets
2012 could be categorized as the year of securitized assets. 1 Pick your acronym,
whether it’s ABS, RMBS, CMBS, CLO, or CDO—they all went up in
2012, and went up with authority. During the credit crisis of 2007 and 2008,
these bonds became unwelcome guests on investors’ balance sheets due to
their complexity, questionable credit quality, and opaque nature. Many were
subsequently sold into a soft secondary market. As such, the prices for these
securities languished for several years. Many reached dollar prices in the $30s
and $40s (on par value of $100) before the recent resurgence amid improved
market conditions and investors’ quest for yield. Even with the strong gains
in 2012, most investors continue to expect attractive results in 2013—albeit
with lower return expectations following the rally. In most cases, high singledigit
net returns are being targeted on an un-levered basis depending on the
quality of the security, with some managers incorporating modest leverage to
push return expectations to the low- to mid-teens.
Private Credit
While public credit markets traded at levels that are priced for perfection, the
private credit markets appeared more reasonable, particularly for middle market
companies. According to S&P Capital IQ LCD Quarterly, 2 purchase price
multiples for middle market companies were 7.9x for 2012, well below the
9.3x level seen at the height of the market in 2007. Additionally, transaction
volume in the middle market was lower in 2012 than in 2011, as only 72 new
transactions came to market in 2012 versus 133 in 2011. 3 Capital structures
for middle market transactions remained well balanced. The equity allocation
for middle market transactions was above the historical average at 41% of the
capital structure, versus a historical average of 37%, a 1997 market low of
29%, and a more recent 2007 “bubble” Leveraged Buyout (LBO) equity low
of 32%. A senior debt multiple (senior debt/EBITDA) of 3.7x at the end of
the year was just above the historical average of 3.5x. 4 Additionally, total leverage
measured by debt/EBITDA was slightly above the historical average of
4.1x. Both metrics indicate an active, but not frothy, market in recent middle
market transactions.
The much ballyhooed private equity “overhang” from peak year capital raises
remains at approximately $355 billion. 5 Approximately one-third of this capital
needs to be put to work in the near future, due to the “use it or lose it”
structure of long-term lock-up funds (although many have extension features).
As such, the markets have been anticipating an increase in buyout activity
(there were only 18 middle market LBO transactions in 2012, down
from 33 in 2011, and well off the 1999 peak high of 140 transactions). 6 Strong
Page 12
FOURTH QUARTER 2012
Keith M. Berlin
Senior Vice President / Director of
Global Fixed Income and Credit
“Most investors continue
to expect attractive
results in the securitized
markets in 2013.”
© 2013 Fund Evaluation Group, LLC