Last week we ventured some thoughts on where this year would take us on middle market deal terms – pricing, leverage, structures, and covenants [link]. This week we examine the supply and demand technicals we expect will drive those terms.

First, let’s dispel the persistent myth of too much cash chasing too few deals. Last year Thomson Reuters LPC reported $52 billion in middle market sponsored loans. The vast majority of this was traditional senior debt. If you use the year-end average leverage of 4.1x senior/4.6x total, that translates to over $45 billion senior loans and less than $5 billion junior debt.

Compare that to the demand side. According to Preqin, over $92.5 billion was raised by private debt funds in 2016. But only $20.9 billion was designated as “senior debt.” This is consistent with reports from fundraisers and institutional investors that many of these new funds target 9% or more yields. That’s junior or higher risk senior debt.

What commentators also miss about new entrants is that many have limited middle market experience. They are either large cap shops dipping down into smaller deals or “credit op” funds seeking issuers who can’t get “regular way” financings. This may be because the companies lack creditworthiness to attract traditional senior debt, or because they are non-sponsored, or because they are in non-favored sectors.