EY 2016 US Private Placement Market Investor Survey
March 2016, Ernst and Young
EY 2015 US Private Placement Market Survey
January 2015, Ernst and Young
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Last Updated 3/2/17
Issue: Private placements refer to bonds and other debt instruments, issued in reliance on a statutory or rule-based exemption from the registration requirements imposed by the Securities Act of 1933. The 1933 Act is administered by the United States Securities and Exchange Commission (SEC). The logic of exempting private placements from registration under the 1933 Act is that the purchasers of privately placed bonds have the economic clout to obtain the financial and other information they need to assess the investment and access to the professional advice (i.e., legal and accounting) they need to understand the information and therefore are not in need of the protection afforded by the disclosures required by the registration process. Investors in privately placed bonds and debt instruments are often referred to as sophisticated investors although specific exceptions use differing terminology to describe the criteria the issuer and purchasers must meet to qualify for the exception. The traditional private placement market is distinct from the debt issued under SEC Rule 144A, which has evolved into a quasi-public market far less tested by informational asymmetries. Issuers of privately placed debt do not require a public credit rating and instead they receive a private credit designation by the Securities Valuation Office (SVO) of the National Association of Insurance Commissioners (NAIC) if an insurance company holds that debt.
Overview: The private placement market is an important component of US capital markets because it provides financing to entities for projects that could not be financed on the public side of the capital markets. Lending in the private placement market is information-intensive. Decisions to lend (by buying the bonds or other debt instruments issued by the borrowers in this market) are made on the basis of assessments of the credit quality of the issuer and negotiated covenants and other protections. Because information about the issuer, the issue and the financed projects are not publicly disseminated, private placements tend to be less liquid than publicly traded bonds.
These characteristics make privately placed bonds attractive to insurance companies. Insurers have the financial and legal sophistication to assess the issuer's credit risk and the other risks presented by the issuers, the issue and the project and to negotiate protections for their loans. Because insurers need long-term assets like bonds to match long-term liabilities, they can hold relatively illiquid assets like private placements to maturity, obtaining additional compensation from the issuer/borrower in the form of a higher coupon for doing so. Insurers can also monitor the performance of these assets, using covenants and other contractual protections to manage deteriorations in the credit quality of the issuer/borrower in a way which has, over time and collectively, resulted in much lower default rates for this asset class than for comparable publicly traded bonds.
As of 2015 year-end, $578.9 billion or 20.9% of insurance companies' total bond portfolio was in private placements, up from $531.5 billion in 2014. Furthermore, the credit quality of insurers' aggregate private placement portfolio is very high, with 93.4% of the securities in the investment-grade category, designated NAIC 1 or NAIC 2.
After volume reached a record $61 billion in 2015, according to Ernst and Young, 2016 was another strong year for the private placement market. According to Bank of America, in 2016 the amount of agented private placement debt issued was $51 billion; including direct placements, the total amount increased to approximately $65 billion as investors searched for deals to satisfy a growing demand.
The market got off to a slow start but more than made up for it with increased activity in the second half of the year, underlined by a fourth quarter that saw nearly $20 billion in volume. The deal count in 2016 declined from the previous year, but due to a greater number of large transactions, the total dollar volume in the year increased compared with 2015. For many market participants 2016 was the year of the megadeals as there were 22 transactions with a deal size over $500 million. The largest transaction in 2016 was a $2.5 billion deal for Mars, Inc.
Status:By law or regulation adopted in each state, insurance companies are required to obtain and report to their regulators NAIC designations for the bonds they buy. NAIC designations are opinions of the credit quality of a bond; in other words – opinions about the relative likelihood that the bond will be repaid in accordance with its terms. NAIC designations are assigned to privately placed bonds by the SVO or are self-assigned by the insurance company if the bond is publicly rated by one or more of a number of credit rating providers. The SVO symbols for credit quality (called NAIC categories) range from NAIC 1 (highest quality/lowest risk of default) to NAIC 6 (lowest quality/in or near default). State insurance regulators use NAIC designations to specify regulatory treatment to bonds based on their NAIC category; including, accounting treatment, the applicable valuation rules, the risk-based capital factor assigned, and reserving treatment.
For more information on the role of the SVO in insurance regulation go to naic.org/svo