Private Credit Pioneer Sees Market Recalibration Coming

In Brief:

The private credit industry faces a period of adjustment as spread compression challenges returns and deal activity remains below normal levels, creating uncertainty about future performance despite ongoing capital inflows. David Golub, president of Golub Capital, a leading private credit manager with over $70 billion under management, shared his perspective on market dynamics during an extensive conversation on Private Market Talks. With over 30 years building one of the industry's pioneering firms, Golub offers a unique view on how private credit evolved from a niche financing solution to a mainstream alternative asset class. His firm was among the first to popularize "one-stop" or unitranche lending, fundamentally changing how private equity deals get financed and establishing competitive advantages that have sustained performance across multiple market cycles.

Big Picture Drivers:

• Growth of PE Ecosystem: Private equity expanded from roughly a dozen firms globally in the 1980s to thousands today with over $1 trillion in dry powder

• Regulatory Constraints on Banks: Three to four regulatory cycles since the 1990s have limited banks' ability to compete in leveraged lending beyond arrangement and syndication

• Competitor Missteps: Poor management by larger competitors who grew too fast and made credit or financing mistakes created market share opportunities

• Market Timing Luck: Golub acknowledges extraordinary fortune in building scale during a period of unprecedented industry growth and opportunity

Key Topics Covered:

• Origin Story: How Golub Capital identified and solved the inefficient three-party financing structure that plagued private equity deals in the early 2000s

• Current Market Conditions: Analysis of spread compression, deal flow challenges, and portfolio company performance in higher rate environment

• Competitive Positioning: Why middle market lending with covenants offers better risk-adjusted returns than large market covenant-lite deals

• Growth Strategy: Focus on maintaining competitive advantages while expanding into adjacent markets like European direct lending

Key Insights:

• Market prediction capabilities have been unusually poor over the past four years, with consensus views consistently wrong about recession timing, inflation duration, and economic resilience, making Golub humble about forecasting future conditions.

• Private credit's competitive advantage over liquid markets includes confidentiality, reliability, structural flexibility, and the ability to provide features like payment-in-kind options and delayed draw term loans that aren't typically available in broadly syndicated deals.

• The current rate environment represents a return to historical norms rather than a new paradigm, as the ultra-low rate period was the anomaly, and most portfolio companies are adapting well to 4-5% interest rates.

• Deal activity has been constrained for nearly two years due to persistent buyer-seller price gaps, but motivated private equity firms facing investment period deadlines and distribution pressure should drive a recalibration by early 2025.

• Middle market lending with financial covenants provides superior protection compared to large market covenant-lite structures, despite misleading competitor analyses that conflate covenant defaults with payment defaults.

• The private credit industry will continue consolidating toward larger, more sophisticated platforms as institutional investors demand greater scale, international presence, and strategic partnership capabilities beyond traditional GP-LP relationships.

Memorable Quotes:

• "We make loans to borrowers who pay us back." - David Golub on their core underwriting philosophy

• "We've never thought about our business as a good asset class, or a good time to invest. We've thought about our business as a business." - David Golub, explaining Golub Capital's approach to building sustainable competitive advantages rather than chasing market timing

• "If you look at our industry, there's a mixed track record" - David Golub, on why acquisitions aren't always the best path to growth in private credit

• "I'm not sure what private credit means anymore as a phrase. It used to be, when we were talking about private credit, that we meant middle market direct lending." - David Golub, reflecting on how the industry has expanded beyond its original definition

• "I think the prospects for private equity outperformance prospectively remain very good. And the reason I think that is because the other two forms of ownership of businesses are so bad." - David Golub, explaining why private equity should continue outperforming despite predictions of declining returns

• "I think as investors, what we ought to think about, is the firm that I'm giving capital to, does that firm have competitive advantages?" - David Golub, on why timing markets matters less than investing in good businesses

The Wrap:

Golub's perspective reveals an industry at an inflection point, where the easy growth phase driven by bank retreat and market disruption is giving way to more competitive dynamics requiring operational excellence and genuine competitive advantages. His emphasis on sustainable business building over market timing reflects the maturation of private credit from opportunistic strategy to institutional asset class, while his warnings about spread compression and deal flow suggest investors should focus on manager selection rather than broad market exposure.