Under the current market environment, characterized by the intense fight against inflation, financial conditions have become more restrictive, a significant amount of liquidity has been withdrawn from the markets and access to credit and debt refinancing has become more difficult and costly for companies. This has also affected Private Equity, which had been the workhorse in this asset class.

Today we see that the cost of debt to finance acquisitions has become an important anchor for the performance of these funds, So much so that a buyout of a company that is leveraged 1 to 1, only because of the cost of debt, its expected return drops from 16% to 11%. In addition to the above, there is the difficulty of finding financing for dealsor finding companies with less demanding valuations.

A closer look at the dry powder accumulated in this asset class, and the increase in this over the last 12 months, suggests the difficulty for managers in finding deals. We have seen how the market for IPO's, SPACS y M&A's in the last 24 months, which in the future could translate into an underallocation within the portfolios that remained invested in these vintages. vintages. All these factors point to the fact that this vintage should deliver lower annualized results than what we are used to, closer to 10-15%.

It is here where we believe a space opens up for the Distressed DebtThe less liquidity we find in the market, the more pressure these managers can exert. managers on the purchase price of an asset. Generally, these negotiation processes are complex, with few players and shallow markets, which amplifies the situation in favor of the managerThis amplifies the situation in favor of the manager, improving the risk-return ratio of the strategy.

Another factor intensifying this situation is the impending maturity wall. "maturity wallwhich will act as a trigger for the new investment cycle. It is estimated that around $351 billion in high yield (HY) bonds and leveraged loans will mature in the US in 2025, ten times more than this year's $35 billion. In addition, the percentage of upcoming maturities of borrowers who are generally more difficult to refinance, i.e., those rated "B" or lower, will also soar. Some of these troubled borrowers may have sustainable business models, but suffer from unstable capital structures.

It is important to note that, unlike in "healthy" markets, the acquisition prices of corporate debt are around 65 vs. 80 below par, respectively. This makes it possible to acquire assets with a valuation "cushion" and an upside potential.

Finally, since the FED rate hike program and with the rhetoric of "higher rates "higher rates for longer", we have seen an increase in bankruptcy announcements or "Chapter 11"of companies in the U.S. that have not been able to navigate this new scenario.which generates a dealflow to look at and be selective.

For all the above factors and considering the current market context, we can expect net returns between 15 - 20% for the investor in this type of strategy. between 15 - 20% net returns for the investor in this type of strategy.

Felipe de Solminihac 

Investment Analyst