As we head into 2017, the movement of capital into the direct lending space continues. Investors’ demands and underperforming hedge funds continue to be driving forces in fueling the direct lending market. It remains to be seen how regulation or deregulation will affect the financial markets but it might not have as much of an impact as you’d think on direct lending.
Investors continue to demand higher returns; thus, forcing investment firms to always be in search of new ways to generate alpha. Compounded by the dismal performance of the hedge fund industry, this has led to more investment in the direct lending space as monies continue to flow out of hedge funds and into direct lending funds. Per Hedge Fund Research, through October of 2016, roughly $50 billion has flowed out of the hedge fund industry. While not all of this outflow is going into direct lending funds, it demonstrates that investors won’t accept underperforming investments.
It is frequently said that regulations have hurt lending, but data shows that US commercial and industrial loans have been steadily increasing since 2010. While increased regulations have decreased typical avenues of lending, such as large banking institutions, lending surpassed the $2 trillion mark in 2016 according to the Federal Reserve. This is up from roughly $1.25 trillion in 2010. Direct lending firms have grown in an effort to fill the supply that was once filled from larger banks. There is talk that certain regulations might be lifted which could mean that traditional means of lending could increase thus further raising the level of lending past the $2 trillion mark.
Investment will continue to flow into the direct lending industry as long as investors demand returns they have typically seen in the past. Commercial lending has increased at a healthy rate with regulation and might see accelerated growth if there is any deregulation. Barring an unforeseen industry event, all signs point to continued growth in direct lending.