Cadwalader’s representations on new fund financing facilities in the United States increased 17% in the first half to total more than $27.0 billion. (The final tally may increase as we complete our data set for June closes.) The growth in finance fund creation comes as credit markets as a whole have slowed significantly. Corporate bond issuance was down 26% in the first half and non-mortgage structured product issuance was 70% lower in the first half of 2021.
Exhibit 1: H1 Fund Finance origination volume (new deals, US)
We attribute the continued growth in fund funding to three factors. First, credit fundamentals in our market are less directly tied to the economy than in most other credit products and as a result, the outlook for loan returns has remained unchanged despite downgrades to the economic outlook. Second, fund financing has no direct link to capital market prices. While this is a constraint on available sources of capital, it insulates the product from market volatility that has tested other credit products. Third, demand for bank assets remains strong as the menu of lending and security products worth adding to the balance sheet in the current environment has shrunk.
Banks’ second-quarter earnings were mixed, but a few things worked consistently across most institutions. Loan growth continued at a healthy pace and rising rates translated into net interest income, beating expectations. C&I loans led the charge, with growth coming from both higher utilization and new originations. We believe that lenders will likely continue to do what works in the second half of the year: continue to make the balance sheet available to fund funding, which should support the continued momentum in origination. This would be consistent with our internal data: our new case openings and potential deals in development increased significantly in the US and UK in June.
Exhibit 2: Fund Finance New Matters accelerated in June (United States)
While origination volume was robust, pricing for new underwriting facilities widened by around 6 basis points in the first half compared to the 2021 average. The pricing range also tightened, the minimum margin on trades increasing significantly. The market was split on the spread adjustment approach, with around a third of trades using the ISDA standard. Although the approach to adjusting credit spreads will not soon reach consensus, overall pricing could widen in the second half of the year, in line with trends in the lending and structured product markets.
The main growth drivers for fund origination remain in place and point to a strong second half. For the outlook beyond 2022, we are monitoring private market internals. Buyout and exit deal values are significantly lower year-to-date, suggesting that the return of capital to LPs is slowing and the time needed to reach the hurdles to PLA deployment that are prerequisites to the raising of the next sequential fund lengthens. Slowing capital velocity in private markets could weigh on fundraising in 2023 and fund origination with that. That said, fund funding will work with a significant lag, and in the meantime, it’s also possible that capital deployment or LP capital returns could come out of first-half lows.