Quick Insights into the Direct Lending Market

11/22/2024

In light of continued investor interest in direct lending private credit, here is a quick update on the market today from our viewpoint at Ares:

Direct lending and syndicated loan markets have experienced year-over-year growth with syndicated volumes showing a meaningful rebound from multi-year lows in 2023. M&A activity has increased which we think should continue to lead to new loan volume¹.
1. For example, in the first half of 2024, Ares saw origination volume increase by 3.7x. This outpaced overall direct lending market volume growth largely due to the advantage of having a large incumbent portfolio².
As a result, spreads have tightened compared to the elevated spreads of 2023 and overall yields remain elevated.
1. For example, for new deals in Q2 2024 Ares senior loan yield premium over the BSL market was 220bps³.
2. Ares is seeing a weighted average yield of senior originations of 10.8%⁴.
Industry non-accruals continue to be below long-term historical averages and we are seeing stronger managers showing stable to improved non-accrual levels.
1. Ares underlying portfolio companies (borrowers) are continuing to perform well with double digit last-12-month earnings and non-accruals declining in 3Q-2024 to just over 1%.

Another observation that continues to persist in the current market is that the level of equity subordination is so much higher and in turn our loan-to-value is so much lower than in previous cycles, which we believe further enhances downside protection should credit conditions worsen.

In 2024 we have observed better risk-adjusted return opportunities in the core middle market vs. 2023 where opportunity abounded in large market loans. We took advantage of that as evidenced by the average EBITDA (earnings) of Ares’ Q2 2024 senior originations declining to $82M in Q3 from $104M in Q2 and $166M in Q1 2023⁵. In the middle market we have seen very little of the deterioration in credit protections that exists in the larger market.

Credit cycles happen, that’s normal, and we have come cleanly out of the latest one (2022-2023). We have not seen anything outside the ordinary that would negatively impact our outlook, giving us confidence in direct lending private credit moving forward.

The Financial Advisor Solutions Team

Ares Wealth Management Solutions

Brendan McCurdy

Head of Research & Marketing, Financial Advisor Solutions Team

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Source: Pitchbook LCD as of June 30, 2024.

Source: Ares Q2 earnings call.

Compares Ares first lien weighted average yield with the annual current yield of first lien assets in the Credit Suisse Leveraged Loan Index (CSLLI) as of March 31, 2024. The CSLLI index may differ from the Ares first lien strategy by having a higher proportion of CCC or lower rated loans, larger loan facilities, cyclical sectors, USD-only global denominated leveraged loans, and publicly traded loans.

⁴

As of 9/30/2024. Yield reflects the weighted average yield on debt and other income producing securities on first lien debt investments as indicated and is computed as (a) annual stated interest rate of yield earned plus the net annual amortization of original issue discount and market discount of premium earned on accruing debt and other income producing securities, divided by (b) total accruing debt and other income producing securities at fair value. First Lien includes investments in first lien assets, the Senior Secured Loan Program and the Senior Direct Lending Program. Asset yields do not represent returns to investors.

⁵

Represents the weighted average EBITDA of First Lien investments as of June 30, 2024. Notes on portfolio company EBITDA: i. Weighted average EBITDA amounts are weighted based on the fair value of the portfolio company investments. EBITDA amounts are estimated from the most recent portfolio company financial statements, have not been independently verified by Ares Capital and may reflect a normalized or adjusted amount. Accordingly, Ares Capital makes no representation or warranty in respect of this information. ii. EBITDA is a non-GAAP financial measure. For a particular portfolio company, EBITDA is generally defined as net income before net interest expense, income tax expense, depreciation and amortization. EBITDA amounts are estimated from the most recent portfolio company financial statements, have not been independently verified by Ares Capital and may reflect a normalized or adjusted amount. Accordingly, Ares Capital makes no representation or warranty in respect of this information.

AccessAres articles are for educational purposes only. The views contained in these articles may change and should not be relied upon as, nor are they intended to be used as, investment advice or a recommendation to buy, sell, or hold any security, investment strategy, or market sector. AccessAres undertakes no obligation to update the materials contained on this website.

This information is for informational purposes only and is neither an offer to sell nor a solicitation to purchase any related securities. Investing in private markets investments involves a high degree of risk including, but not limited to, risk of substantial loss of principal. Direct investments in private companies and investments involve a high degree of business and financial risk that can result in substantial losses.

Financial advisors must carefully consider the risks and other suitability details in determining appropriate investments for their individual clients’ portfolios.

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