One result of higher interest rates and market hardships lately: an increase in private credit downgrades among mid-sized businesses that have borrowed in that market. In this year’s first quarter, 21% of middle-market companies in a representative sampling were downgraded, compared with 13% in 2023’s final period, according to rating agency KBRA.
In a report, Kroll Bond Rating Agency cited mounting pressures on middle-market borrowers “as they navigate through the current period of higher rates, weaker equity valuations, and slower mergers and acquisitions activity.”
The middle market is generally defined as businesses with between $10 million and $1 billion in yearly revenue. These companies tend to use private credit because the bond market and banks are hard for them to access. For investors in private credit, via limited partnerships, the KBRA findings merit attention.
KBRA characterizes its latest credit assessment as a snapshot of these companies, which account for an estimated one-third of U.S. gross domestic product. KBRA studied two separate lists of more than 400 companies each over two years in an attempt to shine light on “opaque” private lending to mid-sized outfits. All of the companies studied are below investment grade and not publicly traded. KBRA does not publicly announce individual grades for the companies.
Despite its concerns about loans to these businesses, KBRA pointed out that no big crisis was identified brewing for them. Defaults “remain muted,” the report stated, adding that just eight companies in its sample defaulted in each of the last two quarters. They were different companies each time.
What sector had the most defaults? Seven of the 16 total defaults in the last two quarters were in health care services and four in software. The report cautioned that “the count of total defaults is too small to draw any significant conclusions.” It added that defaults “appear to be idiosyncratic and not clustered around company size, with total revenues ranging from under $10 million to over $900 million.”
Among credit assessment changes in the sample, downgrades dominate. The ratio of upgrades to downgrades in the first quarter was 0.46, down from about even in 2023’s fourth quarter, which was 1.02. The largest number of shifts in grades, both up and down, came in the B- category.
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Tags: defaults, downgrades, Economy, Interest Rates, KBRA, Kroll Bond Rating Agency, middle market, Private Credit
