Is Private Credit The New PE?

In this issue of the Peel:

• ?? The numbers—growth and inflation—were both higher in Q1
• ?? Walgreens closed at its lowest price since 1997, its worst day in 50yrs
• ?? PE recruiting is here, but returns are not. Private credit is where it’s at

Market Snapshot ??

Banana Bits ??

• All 31 “large banks” in the U.S. passed the Fed’s latest stress test, able to absorb $685bn in combined losses
• Listings are up, prices are down—the housing market is starting to heal
• Levi Strauss got hammered (and not in a good way) on tough earnings
• Finally, something we can all get behind—the Supreme Court just told the Sackler family to go f*ck themselves

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Macro Monkey Says ??

Good News, Bad News GDP Report

The third try’s the charm, right??

Counting is hard. And now that we’re at the end of the second quarter of 2024, the federal government has finally finished counting all the economy’s data… from Q1.

They took their sweet time, but we finally have the official data on GDP growth and inflation during the first quarter of 2024. Let’s get into it.

The Numbers

In their third and final estimate, the Bureau of Economic Analysis (BEA) announced on Thursday that real GDP grew 1.4% in Q1, slightly higher than their previous estimate of 1.3%.

Source

We’ll take an increase, but we’re still not gonna be happy about it.

The new data suggests that while imports were higher and consumer spending was lower than previously thought, both detracting from growth, nonresidential fixed investment and good ol’ government spending were both higher.?

As a reminder, GDP = Consumer Spending + Investment + Government Spending + (Exports - Imports), or C + I + G + NX.

Looking at just the “Investment” and “Government Spending” categories, which encompass gross private and public spending, we can see that private goods producing industry spend were the biggest detractor among these line items.

That weakness was born out of declines in durable and nondurable goods production investment, led by metals, petroleum, and coal products, declining 1.1% in total.

Source

Meanwhile, private service producing industries grew 1.9%, and government spending, of course, grew 2.3%, to absolutely no one on Earth’s surprise.

Retail trade, construction, and all of us in finance and insurance carried the team by contributing the most to the GDP growth of any industry group. Manufacturing, utilities, and mining were the primary detractors, as seen below.

Source

None of this is exactly groundbreaking, as the changes are little more than alterations of a few basis points compared to the second GDP estimate from May.

But I might get nightmares from the weaker consumer spending data. We will get the full PCE report tomorrow, but alongside this GDP report, we learned that the quarterly PCE Price Index came in slightly higher than expected at 3.4% compared to the prior estimate of 3.3%.?

That might not change our views on inflation much. But, the double whammy of lower spending and higher prices than we previously thought means demand for goods and services was even weaker than total dollar consumer spending indicates.

That’s because if prices were higher and total dollar spending still came in lower than our previous estimates, it must be because we bought even less bullsh*t than expected.

Finally, the scariest part of the report was the update on quarterly inflation. Based on the BEA’s data, JPow’s got some more work to do:

Q1’24 saw the highest quarterly PCE inflation since the first quarter of 2023. This doesn’t necessarily mean inflation is coming back with a vengeance, but it does mean Fed Chair JPow and the FOMC could have a problem on their hands.

The Takeaway?

Real GDP came in much slower than expected as inflationary pressures roared back to life in Q1.

Not that this means anything at all, but if we had the same 1.8% quarterly inflation that Q4’23 saw, real GDP growth would’ve clocked in at a healthy 3.0%.

Clearly, however, the market isn’t too worried. Treasury yields sank across the maturity spectrum, and CME implied rate cut/hike odds barely moved.?

We’ll find out soon if the same holds true for today. Fingers crossed, apes, fingers crossed.

What's Ripe ??

National Beverage Corp (FIZZ) ??15.0%

• Sadly, the beverages this company makes aren’t very fun, but Thursday’s returns definitely were. The company beat across the board on earnings.
• Owner of La Croix, Everfresh, and other drink brands designed to let people know they’re better than you saw a 20% jump in net income.
• Volumes grew by 5%, along with prices, as this company had no issues passing inflation on to their wannabe-wealthy consumers.

RH (RH) ??9.2%

• Marsh Carter said, “Increasing stock price is not a business strategy. A good business strategy will increase your stock price.” RH proved him wrong.
• Putting the team on his back, CEO Gary Friedman threw another $10mn into RH stock at an average cost of $216.10/sh.
• There are many reasons to sell, but insiders buy for just one. Investors loved the vote of confidence, sending shares higher.

What's Rotten ??

Walgreens Boots Alliance (WBA) ??22.2%

• There are bad earnings reports, and then there’s this. The company beat on sales but missed on earnings and is now looking to cut costs.
• To cut costs, Walgreens announced they are closing even more stores as “75% of our stores drive 100% of our profitability”, per CEO Tim Wentworth.
• Health care was the only strong segment of the pharmacy and drug stores, but not strong enough to save them from their worst trading day in 50 years.

Micron (MU) ??7.1%

• Like shaking up your 11th can of Miller Lite later tonight, we knew this was gonna be a little bubbly. Micron plummeted on great earnings and in-line guidance.
• This chip maker reported $0.62/sh on $6.81bn vs estimates for $0.51/sh on $6.67bn. Guidance was in line, so obviously, the market hated that.
• Micron’s specialty is in memory or storage, making some tech analysts think they could get a huge boost from AI inference as opposed to AI training.

Thought Banana ??

Poverty in PE

Recruiting for private equity may have just started, but making money for private equity is apparently ending.?

The industry famous for its riches and douchebagginess now just has the latter after these returns.?

Private credit was the place to be. Let’s take a look.

The Numbers

Like Nvidia, private credit has exploded in popularity since JPow and the FOMC started raising rates. However, like Nvidia, the industry delivered the performance to back it up.

Source ?

Above, we can see returns of what is essentially the private version of a 60/40 portfolio. Since 2022, most of the returns have come from that 40.

Reasons are obvious, for once, as to why private credit suddenly started to outperform.

With higher rates, the challenge of selling a portfolio company or position increases drastically in private equity. Simultaneously, private credit funds are able to exponentially jack up charges on the loans they make.

So, it’s no surprise that cumulatively, since 2022, the returns of these two industries look like this:

Source ?

With far fewer buyers willing to take on buyout loans, distributions in private equity have sunk to a nearly 5-year low at just 8.7% of total fund values. There was a brief moment of optimism in late 2023 on the Fed’s dovish pivot, but…?

That didn’t last long. Distributions rose from their actual 5-year low of 8.2% in Q2’23 to 11.6% in Q4 but have fallen right back all throughout 2024.?

That’s allowed returns in private credit to nearly double those of private equity thus far in 2024. PE has delivered 1.3% in total, while PC is at 2%.

The Takeaway?

Outside of Treasuries, money market funds, and other mind-numbingly boring investments, finding returns in private markets has become as challenging as finding Zyn anywhere in the United States.?

It might be easier to get a job in PE than to get an exit. Make sure you secure your offer with WSO’s Private Equity Interview Course & Guide here .?

Maybe then your parents will finally be proud of you. If that’s the goal, my only advice is—don’t start writing a newsletter.

The Big Question: How long will private credit outperformance last?

Banana Brain Teaser ??

Previous ??

Club X has more than 10 but fewer than 40 members. Sometimes, the members sit at tables with 3 members at one table and 4 members at each of the other tables, and sometimes they sit at tables with 3 members at one table and 5 members at each of the other tables. If they sit at tables with 6 members at each table except one and fewer than 6 members at that one table, how many members will be at the table that has fewer than 6 members?

Answer: 5?

Today ??

In order to complete a reading assignment on time, Terry planned to read 90 pages per day. However, she read only 75 pages per day at first, leaving 690 pages to be read during the last 6 days before the assignment was to be completed. How many days in all did Terry have to complete the assignment on time?

Send your guesses to [email protected]

Wise Investor Says ??

“Private equity has absolutely no reason to exist. The private equity holder has all the upside and the banks all the downside.” — Nassim Taleb

How Would You Rate Today's Peel??

??All the bananas ? ? ? ? ? ? ? ? ? ? ? ? ???Meh ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ? ??Rotten AF

Happy Investing,

David, Vyom, Jasper & Patrick