Years of easy money allowed overleveraged companies to postpone difficult decisions. According to executives at Oaktree Capital, that period may be ending.

Speaking on Oaktree’s latest The Insight podcast, Brook Hinchman, head of North America for Oaktree’s Opportunistic Credit Strategy, and Matt Wilson, co-portfolio manager for its Special Situations Strategy, argued that a “higher-for-longer” interest-rate environment is beginning to expose vulnerabilities across parts of the credit market. But they also see the conditions creating one of the richest opportunity sets for distressed investors in years.

“The opportunity here if it stays higher for longer is that we’re going to see the opportunity to purchase meaningful amounts of distressed debt and/or provide capital solutions,” Wilson said.

The executives framed the current market as a sharp break from the decade that followed the global financial crisis, when inflation remained subdued and borrowing costs hovered near historic lows.

Hinchman said investors are now operating in a fundamentally different regime.

Inflation ‘Regime Change’

“We have seen a regime change in terms of inflation from a very low inflationary environment to a higher inflationary environment,” he said, citing persistent inflationary pressures that have outlasted expectations that post-pandemic price increases would prove temporary.

That shift has created a paradox in credit markets. Higher rates have boosted yields for lenders, but they have simultaneously increased financing costs for borrowers already carrying heavy debt loads.

Wilson noted that many companies avoided defaults over the past several years by extending maturities through liability management exercises, often taking on additional debt to buy time.

“But eventually, this will come home to roost at some point,” he said.

The firm also identified specific areas of concern within private credit. Hinchman said portions of the direct lending market face an asset-liability mismatch, particularly interval funds and private business development companies that offer periodic redemptions despite investing in illiquid loans.

Enterprise software represents another pressure point.Hinchman argued that advances in artificial intelligence are lowering barriers to entry that historically protected software businesses from competition.

“What you’ve seen is a situation where the primary barrier to entry for enterprise software… has come down meaningfully,” Hinchman said.

Despite the risks, neither executive argued that private credit itself is fundamentally broken.

Instead, they believe the market’s dislocations will reward investors with restructuring expertise, scale and flexibility.

One area they expect to grow is the secondary market for private loans. While direct lending lacks the transparency and liquidity of syndicated markets, Wilson said portfolio sales are becoming more common as managers seek to meet redemption demands.

“We are beginning to see portfolios trade,” Hinchman added, saying he expects activity to accelerate.

Oaktree also sees opportunities in rescue financings and structured capital solutions. According to Hinchman, these transactions can generate premiums of 300 to 1,000 basis points above traditional direct lending spreads, often combined with equity participation features.

“There’s a lot of direct lenders out there that can do plain vanilla deals,” he said. “But there’s very few investors, particularly in size, that can do these structured solutions.”

For Oaktree, the takeaway is clear: an environment that looks increasingly difficult for weaker borrowers may prove unusually attractive for investors prepared to navigate complexity.

“Maybe we are no longer in an easy credit environment,” podcast host Harry Whitelaw said in closing. “But that doesn’t just present risks. It presents opportunities as well.”

Photo: Shutterstock

Image: Shutterstock