Silicon Valley Bank Collapse And Credit Suisse Rescue Are A Boon For Private Equity

Banking trouble points to opportunity for private equity.

The unfortunate turmoil in the global banking industry is shaping up as a long-term benefit for private equity, set to spur even more rapid growth and profitability - for both investors and managers. Indeed, the immense opportunity to provide loans and equity investments to cash-starved companies was clearly highlighted on March 13, three days after Silicon Valley Bank’s failure. That’s when the direct private equity investment resources of the largest pension fund in the United States, The California Public Employees’ Retirement System, were definitively declared committed to the fray.

“The word is out that we can be a strategic partner and agile in providing solutions for balance sheet restructuring, or as a provider of patient, long-term capital,” Nicole Musicco, CalPERS’ Chief Investment Officer, told her investment committee in a widely noted discussion on how the pension fund, with $452 billion in total assets, could take advantage of banking troubles. “My phone continues to buzz” (presumably, off the hook).

It’s worth noting that the definition of private equity here is broad. It includes both equity and credit, backed by the equity investments of limited partners (investors with limited liability whose capital is managed by a general partner or fund manager who provides equity or debt to mostly unlisted, private companies). Private equity broadly defined notably excludes hedge funds, which typically make long and short investments in public stock markets instead of focusing mainly on private companies.

With increasingly clear evidence that the collective balance sheet of the global banking industry is overwhelmingly healthy, heartening reassurance from regulators around the world that further bank runs will be stemmed, and with bank shares showing a sustained rise off lows, effective containment of today’s banking turmoil seems more than likely. Yet, the real-time run on bank deposits that technological advances have made possible in the last few years, manifested in the SVB VB , Signature Bank, First Republic and Credit Suisse crises, will almost certainly lead banks to cut back further on their leverage and hence their lending. The growing problem of a relative lack of bank capital could easily be compounded by new regulatory constraints on bank balance sheets introduced in the wake of the sector’s recent troubles.

One way or another, increased cautiousness will compound a bank pullback that began with the Global Financial Crisis 15 years ago, when a raft of new global regulations and stress tests (some good, some bad) had the unintended consequence of leading to banking disintermediaton for the smaller and mid-sized firms that have always been the sweet spot of private equity funding.

Reflecting the increased opportunity for private equity that began with the original banking pullback, the industry’s equity investments have grown four-fold to $8 trillion today, from just just $2 trillion in 2010, according to private equity advisory Triago.[1] Private credit, though still a smaller market, benefitted even more in terms of growth, increasing 35-fold over the same period to $1.4 trillion, according to data provider Preqin, roughly equal in size to today’s high yield bond market.

Prior to this year’s banking turmoil, projections for private equity broadly defined forecast a rough doubling of total assets over five years through 2027. Those estimates will now have to be increased. Pressure in the loan market will lead more companies to seek equity funding in the form of venture, growth and buyout capital.

One widely cited projection for private credit growth from Preqin forecasts 64 percent expansion over the five years through 2027. But given what’s now likely to be an even more aggressive banking disintermediation going forward, I would posit that the private credit market on its own could more than double in size over the next four years.

One final point: Increased bank caution, combined with heightened economic uncertainty for the foreseeable future, and a related desire to invest in identifiable assets rather than traditional, blind-pool private equity funds (investors commit to funds before the latter make investments), should reinforce direct private equity investment in companies from groups that have historically invested mostly in funds. This too should increase potential returns for investors. One of the most obvious candidates for more aggressive direct investment in the wake of banking turmoil is CalPERS, given the memorable words of its chief investment officer.

In sum, trouble in the banking sector will prove a catalyst for private equity growth, as it arguably always has.

[1] In the interest of transparency, I am Chairman and founder of Triago.