The changing landscape of the debt sector

Regulatory pressure

Increased focus on Anti-Money Laundering (AML) procedures and a need to demonstrate greater economic substance within some fund jurisdictions are contributing to increased regulatory pressure. This has also led to commensurate cost increases, leaving more cost-sensitive managers beginning to explore alternative jurisdictions with a lesser regulatory burden, though investor awareness and jurisdictional preference is sometimes preventing this.

Changing investors’ attitude

With a now almost pervasive investor focus on Environmental, Social, and Governance (ESG), ESG considerations are beginning to influence the decision-making of investors around fund domiciliation. Investors prefer to allocate to funds that are domiciled in well-known jurisdictions, particularly those with a good reputation, established and robust legal and regulatory framework, solid infrastructure and considerable expertise.

It’s nothing new that ESG considerations have become embedded across the investment decision-making and screening process and is being targeted under sector specific capital allocation by the managers. But this is wider than just investment strategy and will also have an effect on the selection of service providers to service the manager in general, and fund structuring in particular.

Market activity

Market volatility presented opportunities for distressed-debt investors. Distressed-debt funds returned an average of 13% last year, bolstered by government stimulus packages, with returns for some managers approaching 50%. Those returns were last seen post-2008/09 financial crisis. The sharp contraction and recovery rewarded quick moving credit investors and managers. The trend has continued in 2021.

With the change in US government and Biden’s much desired plan for infrastructure, there has been an accumulating dry powder for this and huge pools of private capital, including debt financing, are standing by to capitalise upon the lucrative financing opportunities under public-private partnerships for developing dilapidated infrastructure.

In Europe, non-bank or direct lending recorded the highest number of deals ever in the final quarter of 2020, according to Deloitte’s latest Alternative Lender Deal Tracker. Non-cyclical sectors such as professional services and technology, media & telecommunications (TMT) are being viewed as a safe haven for the direct lenders to deploy the dry powder. Meanwhile, the ongoing uncertainty presents further opportunities for the alternative lending market which is typically less risk averse than traditional lenders. That said, even if a sector is seen as a safe haven, the direct lenders continue to require robust due diligence.

In summary, considering ‘hope is not a strategy’, a proactive approach to understanding the latest trends in market, regulatory focus and investors’ expectations would help debt managers to deploy the right tools and generate the returns required by the investors within the desired risk appetite.

About us:

Our Channel Islands Debt Fund Services team, backed by the Deloitte North South Europe (“NSE”) network, has an industry-leading depth of experience and expertise across all debt asset types. Our award-winning team (Winner, Alt Credit European Awards for Best Audit Service in both 2020 and 2019) has developed a level of competency, experience and expertise which is unique in the financial services market. The multidisciplinary team’s client experience and technical knowledge across key debt asset types means it can deliver an expert and insightful audit. For more details or assistance please reach out to me at Manik Memon or Marc Cleeve or visit us at Deloitte Channel Islands Debt Fund Services Team.