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Private Credit 

Shubham Saharan

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Sami Vukelj

There’s a lot of talk about asset-based finance being the next big frontier for private credit lenders. It’s a very diverse space with a multitude of potential strategies — but here’s one trade we hadn’t considered:

Bank A sells a direct lending business to Bank B as part of a larger transaction

A few months later Bank B decides to wind down this business, and so puts its asset portfolio up for sale

Bank A gets a chance to buy back its favorite parts of said portfolio, for significantly less than it sold them for just a few months earlier

That’s roughly what’s happening between MUFG and US Bank, according to 9fin sources.

As we reported last month, US Bank is winding down the middle-market direct lending business it bought from MUFG in 2022, as part of its acquisition of Union Bank. And MUFG — which is making its own moves to get into private credit — is among the potential buyers combing through the portfolio.

There are other buyers these assets could go to, of course. Still, it would be fun if they ended up back at the very bank that sold them. For what it’s worth, MUFG declined to provide any comment for this article, as did US Bank — but we’ve done some digging.

It’s not easy being a regional bank at the moment, especially as fears of another banking crisis percolate in the market. Many lenders are being forced to reconsider their priorities and exit certain strategies.

Still, US Bank’s decision to shutter this middle-market lending unit caught some people by surprise, partly because middle-market direct lending is a hot area of private credit — and partly because US Bank had only recently acquired the unit.

“I saw first-hand the bank pull a 180,” said one former employee that spoke with 9fin.

The timing didn’t help with this perception of a sudden reversal. US Bank acquired Union Bank in late 2022, largely as part of a strategy to increase its scale in California; the direct lending unit was part of that deal, but not necessarily the main driver of it. It was a fairly routine deal.

A few months later, the sleepy world of regional banking was thrown into chaos when Silicon Valley Bank collapsed in March 2023. A regulatory crackdown followed.

This was something of a layup for non-bank lenders, the argument being that private credit firms (which are subject to less regulation) could swoop in and provide sought-after products like ARR and middle-market loans if regional banks pulled back amid the chaos.

And pull back they did. First, US Bank stopped making ARR loans; then, around the summer of 2023, it reduced its commitment sizes to around $75m while also deciding to focus on lending to companies with more than $50m in EBITDA, according to sources familiar with the situation.

The bank also decided to focus on working with bigger sponsors. Clients who didn’t fit this new profile were given a heads up that US Bank was pulling back and would probably be unable to upsize existing debt facilities or look at new deals. 

Whether intentionally or not, this de-risking dovetailed with increasing regulatory scrutiny. During its Q3 23 earnings call, US Bank revealed that the Federal Reserve had approved the bank’s request to retain a Category III designation, granting it relief from the stricter capital requirements reserved for Category II banks (institutions with more than $700bn in assets).

The approval came after US Bank took “actions to reduce [its] risk profile, strengthen [its] capital position and provisions related to Category III rules made after [it] received approval on the Union Bank acquisition,” said the firm’s CEO, Andy Cecere, during the earnings call.

But that doesn’t mean every bank is pulling back from this kind of lending.

As we mentioned earlier, middle-market private credit is a hot area, and many bulge-bracket investment banks are partnering with private credit firms or pouring their own money into it. This can help maintain some exposure to smaller credits that are increasingly turning towards non-bank lenders.

But some regional banks — which often lack the resources of larger banks and are less accustomed to dealing with onerous regulations — are pulling back from this area amid the increased regulatory scrutiny. As they do so, private credit firms are potential buyers of their unwanted assets.

It’s almost a tale of two markets: large banks are making overtures to private credit firms to get into areas like senior direct lending, while smaller regional banks trying to get out of parts of credit markets where the risk math just doesn’t work anymore.

This divergence is partly to do with banks’ varying familiarity with post-crisis capital requirements.

In the wake of the 2008 crash, the Basel III framework forced large banks to pad their balance sheets with extra capital based on the risk profile of their assets. In determining these risk profiles, regulators focused largely (although not entirely) on credit risk, requiring higher reserves for riskier assets like leveraged loans than safer ones like government debt.

Last spring, the rapid rise in interest rates exposed a blind spot in that regulatory regime: duration risk. As the shifting yield curve drastically pushed down the value of existing government bonds — formerly seen as safer under the Basel framework — banks like SVB and First Republic found their balance sheets in trouble.

In response, regulators cracked down again and are imposing even higher capital requirements. The so-called ‘Basel Endgame’ now looms, which could require banks with $100bn or more in assets to hold more high-quality capital to protect against potential losses.

Crucially, this new regulatory crackdown covers smaller banking institutions as well as the Globally Systemically Important Banks (G-SIBs) that Basel focused on. Complying with those new rules is expected to impose a significant cost on smaller institutions, compared to larger banks that are already familiar with the Basel paradigm.

“Regulators are extending advanced approaches framework to a much larger group of banks, basically the regional banks beyond just the G-SIBs,” said a lawyer focused on financial services regulation. “That alone is a much more complex and costly system just to run.”

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MUFG circles back to direct lending assets it sold to US Bank

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