Specialty finance, isn’t a new asset classes, Sheldon said. Previously, it sat in banks or with niche asset managers that were experts in areas such as aircraft or rail. Now, broader teams are allowing for multiasset class approaches.
“(T)here has been increasing demand and interest to construct customized multi-asset portfolios that allocate across global corporate private credit, asset-based finance, junior debt, CLO equity, Asia credit and capital solutions,” said KKR’s quarterly credit investor letter seen by P&I.
Sheldon is continuing to see institutional investors create permanent private credit allocations, with many realizing they do not want to partner with seven different managers across asset types and up and down the capital structure.
“Sometimes they want just one manager across multiple different assets, asset classes. And so we’re seeing that trend happen pretty fast,” he said.
Another busy area is capital solutions and bespoke transactions as the bid-ask price in mergers and acquisitions remains wide. “Owners of businesses are looking either for growth capital or for ways to get capital back,” Sheldon said.
While there’s been a lot of coverage of private credit’s growth, Sheldon said most of that refers to direct lending and points to junior debt as an area where not enough capital has been raised.
Banks and private credit
Another structural shift happening in credit markets involves asset managers partnering with banks on trades, including synthetic risk transfers.
“The way we’re partnering with banks is kind of how we’ve been partnering with our corporate clients, whether it be sponsors or corporates,” Sheldon said, adding that the main question is “how can we help you?”
Headlines around banks and private credit managers competing against one another have been “overblown a little bit,” Sheldon said.
“They need to coexist together. We can't do our business without the banks. We partner with the banks, the biggest counterparties for us on financing our private credit assets, particularly our direct lending,” he said.
Sheldon said that while there will be times when banks and private managers compete, that’s healthy for the market and offers borrowers different solutions.
“There’s opportunity for both of us, and we need each other,” he said.
‘CLO machine finally back in action’
One area that picked up during the first half of the year was collateralized loan obligations. New CLOs created hit the highest volume of issuance since the post-global financial crisis era at $48.8 billion during the first quarter, according to PitchBook LCD data and KKR credit analysis as of May 31. At the end of May, activity stood at $105.7 billion globally.
“Increased issuance and improved investor sentiment provided further fuel to the metaphorical fire with the CLO machine finally back in action,” according to KKR’s investor letter, noting that about $77 billion of gross CLO issuance consisted of refinancing and resets year-to-date.
Sheldon said he thinks this is happening because there’s a growing consensus that rates have peaked, the economy isn’t going into a recession and defaults are not going to spike.
“As a result, demand for CLO equity, demand for levered tranches within the CLO market has increased,” he said.
During the first quarter, KKR put out four new-issue CLOs totaling $1.6 billion, according to the letter.
‘Non-obvious market’
KKR has characterized the current environment, as well as credit markets, as a “non-obvious market.” The investor letter described this as “growing asset level dispersion fueled by an overt focus on spread versus absolute yield, technicals that are increasingly disconnected from fundamentals coupled with the overhang of rapidly developing geopolitical matters.”
Following Federal Reserve Chair Jerome Powell’s recent remarks and new economic data, KKR revised its house view to forecast one interest rate cut in December.
Sheldon said there are a lot of opportunities in credit markets, but many investors focus on spread and not enough on absolute yield.
“There’s going to be more and more dispersion in the market, the haves and have-nots, and given the incentives to take risk and just making sure you’re keeping it simple. Now is not the time to reach for risk,” he said, adding there will be “a time to go into more complex and stressier situations.”
KKR's total credit assets under management are approximately $230 billion.
