Kilde’s Fountain of Finance #12 - 25 May 2024

Greetings!

In this newsletter edition, we curated reports on crucial topics, such as BNPL platforms, US interest rates in 2024, and ten considerations for private markets in 2024, which are essential in the current financial landscape.?

Furthermore, we delve into crucial industry discussions, shedding light on why private debt funds are adopting a more cautious approach to their investments, the notable shift in investment strategy by family offices, and investors' ongoing quest for higher yields.

We hope you will enjoy the read!

Kilde’s Industry Intel: Our Favorite Industry Report Roundups

Rising Stars or Falling Stars? The Curious Case of Buy Now, Pay Later Platforms

Merchants are increasingly embracing Buy Now, Pay Later (BNPL) options despite the higher costs—on average, 3-4% more than credit cards. This strategy allows them to expand their customer base by offering more flexible payment options.

However, BNPL platforms are struggling with profitability due to sizable fixed costs, which can consume up to 80% of their assets. Unlike merchants, these platforms assume all the credit risk and have limited ways to generate revenue beyond merchant fees.

BNPL customers tend to be riskier than credit card holders. They are generally younger and have lower incomes and credit scores, leading to higher delinquencies and further pressure on the platforms.

The jury is still out on whether BNPL platforms can scale sustainably. Their growth depends on keeping customer acquisition costs low and managing risks effectively. Despite these challenges, the convenience and flexibility of BNPL payments are significant attractions.

Key takeaway: BNPL platforms benefit from strong network effects. We will likely see 1-2 dominant players emerge in each market. The spotlight is on platforms that build strong merchant and customer relationships early on.

Link to report - https://www.bis.org/publ/qtrpdf/r_qt2312e.htm

US Interest Rates in 2024: Potential Impacts on Currency Markets

1. Traders' Expectations vs. Economic Reality: Traders are heavily betting on the Fed cutting rates swiftly in 2024. However, some projections indicate that the US economy might exceed expectations next year, prompting the Fed to remain cautious about rate cuts.
2. Potential Delays in Rate Cuts: If US economic data remains strong in early 2024, the Fed may delay rate cuts. This could widen the interest rate differential between the US and other major economies experiencing slower growth, such as Europe and Canada.
3. Impact on the Dollar: Delayed Fed cuts and robust US growth could strengthen the dollar, particularly against more vulnerable currencies, in the first quarter of 2024. The dollar might recover from its late 2023 decline as investors redirect funds into US assets.
4. Medium-Term Outlook: Over the medium term, interest rate differentials are expected to narrow as major central banks begin to ease. This general convergence and eventual Fed cuts later in 2024 will likely weigh the dollar.
5. Divergent Central Bank Policies: In 2024, central banks will vary in easing cycles. The ECB and BoC may cut rates more quickly, while others, like the BoE, RBA, and RBNZ, may proceed more slowly. This divergence could create opportunities in currency cross-trades.
6. Short-Term vs. Long-Term Trends: There is potential for short-term dollar strength in early 2024. However, the broader trend points to moderate USD weakness, especially later in 2024, as global growth improves and the Fed begins to cut rates. Currency returns are expected to be more mixed compared to 2023.

Link to report - https://www.monexeurope.com/news-analysis/forecasts/monexs-march-2024-fx-forecasts/

Ten considerations for private markets in 2024

Here are ten key considerations from a recent McKinsey report:

1. Dealmaking Normalization: Dealmaking is expected to return to more typical levels as the pressure on limited partners (LPs) to return funds balances with the need for returns and the impact of higher interest rates. This could narrow bid-ask spreads.
2. Challenging Fundraising Environment: Fundraising will remain difficult as public equities rebound, but fixed income stays depressed, increasing private equity's numerator. LPs are favouring larger, well-known funds.
3. Critical Value Creation: With the end of low-rate tailwinds, value creation through top-line growth and cost reduction will become essential.
4. Talent Challenges: Efforts to improve diversity, equity, and inclusion (DEI) are slowly reshaping the industry. Firms also need help in developing and retaining younger professionals.
5. Creative Sourcing: With abundant dry powder, sourcing may become more creative, focusing on family-owned businesses and corporate carve-outs. Diligence and networks will be crucial.
6. Accelerated Infrastructure Investing: Infrastructure investment will increase as LPs seek uncorrelated returns, driven by the energy transition and supported by government spending.
7. Growth of Private Credit: Private credit will continue to expand as banks limit lending. However, crowding could pressure spreads, making differentiation key.
8. Increased Real Estate Deal Volume: Real estate deal volume may rise as rental stability aids value discovery and construction slows. Distressed assets could catalyze activity.
9. Role of Secondaries: Secondaries will provide liquidity and extend hold periods as general partners (GPs) transfer assets and LPs harvest portfolios.
10. Operational Improvement: Without low-rate tailwinds, operational improvement will be critical for value creation. Firms that can execute well will enhance value.

These considerations highlight the evolving landscape and the strategic adjustments necessary for success in private markets in 2024.

Link to report - https://www.mckinsey.com/industries/private-capital/our-insights/ten-considerations-for-private-markets-in-2024

Kilde’s latest scoop on Investing

Lenders Grow More Cautious in Current Economic Climate

Private debt funds are becoming more selective with their investments, particularly in cyclical industries vulnerable to economic downturns. Enhanced due diligence, close communication, and ongoing monitoring of borrowers are now critical for private debt managers to navigate risks.

Fundraising has become challenging for businesses in retail, specific industrial sectors, and those with:

• Thin margins impacted by inflation
• Management changes or critical personal risks
• Customer concentration

Conversely, sectors with recurring revenues, high margins, and leading market positions like healthcare are proving resilient and attractive to lenders.

In this environment, private debt funds that can identify quality borrowers, be selective with underwriting and work closely with portfolio companies will be well-positioned.

ESG-linked loans are also rising in popularity to meet growing investor demand and help quality companies secure financing.

Despite near-term headwinds, private debt's long-term growth story remains intact as investors seek compelling risk-adjusted returns.

Reference: https://www.rothschildandco.com/en/newsroom/insights/2024/03/wm-private-debt-an-alternative-to-bank-financing/

Family Offices Shift Strategy: From Cash to Alternative Investments

A recent KKR survey of 75 chief investment officers found that family offices are increasing their allocations to alternative investments while reducing cash and public equities. Key insights:

• Alternative investments comprise 52% of family office portfolios, up from 42% last year.
• Cash holdings fell from 11% to 9%.
• Public equities allocations dropped from 32% to 29%.

Family offices are uniquely positioned to capitalise on opportunities in the private markets. With longer investment horizons, they can provide patient capital and capture the illiquidity premium others may avoid in the current environment.

Top alternative asset classes family offices are betting on:

• Private credit: 45%
• Infrastructure: 31%
• Private equity: 28%
• Commodities: 18%

Real estate remains attractive, particularly in sectors like data centers, logistics, and warehouses that align with post-pandemic investment themes. Interestingly, oil and gas investments are also gaining traction as forced selling by other investors creates compelling opportunities. The message is clear: Family offices are playing offense and strategically allocating alternatives to navigate these unique market conditions.

Reference: https://www-cnbc-com.cdn.ampproject.org/c/s/www.cnbc.com/amp/2024/02/16/family-offices-shift-out-of-cash-into-alternatives.html

Overlooking Risks: The Quest for Higher Yields by Investors

Credit spreads—the extra yield investors demand to hold corporate bonds over safer government debt—are primarily driven by credit availability in the market.

When credit is easily accessible, spreads tend to tighten as investors are confident about the economic outlook and companies' ability to repay debt.

However, highly narrow spreads may also indicate excessive risk-taking and complacency, as ample credit availability can lead to overlending.

Debates revolve around whether current tight spread levels accurately reflect the actual risk premium of credit or if they fail to price in potential risks.

Central bank policies play a crucial role in influencing credit conditions, investor appetite for yield, and company fundamentals.

When credit spreads are too tight, their subsequent widening decreases bond prices, harming investors.

Are lenders becoming too complacent in extending credit, setting the stage for potential turbulence down the line?

Reference: https://www.wealthmanagement.com/alternative-investments/why-private-credit-alternative-asset-class-everyone-covets

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About Kilde

Kilde is an investment platform tailored for individuals and institutions, providing access to private credit deals supported by cash-generating assets. We offer up to 13.5% annual returns to our investors, surpassing similar risk investments yielding around 8%. We are licensed by the Monetary Authority of Singapore. Find out more: https://www.kilde.sg/