Ares Management Rides The Wave: How Rising Interest Rates Are Boosting Its Profits
Rising interest rates are one of the biggest woes for companies worldwide, as skyrocketing borrowing costs and recessionary trends dampen performance and growth opportunities. The benchmark S&P 500 index recorded its worst performance since 2008 last year.
While the Federal Reserve's decision to pause interest rate hikes during the last cycle caused markets to turn upbeat, the respite is temporary, as Fed Chair Jerome Powell indicated that the central bank would likely resume rate hikes soon.
The Federal Reserve remains committed to lowering inflation to below 2%. While inflation has cooled from the alarming levels last year, the Fed estimates it will be a while before the rates fall below the desired level.
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"I remain willing to support raising the federal funds rate at a future meeting if the incoming data indicates that progress on inflation has stalled or is too slow to bring inflation to 2% in a timely way,” Fed Gov. Michelle Bowman stated earlier this month.
While rising interest rates have dampened overall market sentiment, the private credit industry has emerged as an unanticipated winner, as rising borrowing costs have propelled profit margins.
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Rising interest rates have dampened market sentiment and created recessionary fears, but robust consumer spending has helped the global economy narrowly avoid an economic downturn. Irrespective of skyrocketing inflation rates, consumers have continued to maintain their spending levels, thanks to COVID-era stimulus paychecks allowing them to save substantially and expectations regarding a soft landing.
"For the first time in a long time, consumers are saying that their current situations and their expectations for the future are very optimistic," The Conference Board Chief Economist Dana Peterson said.
Personal consumption expenditures increased by 0.5% in June to a new high, with Visa, Inc. CEO Ryan McInerney stating, "The consumer has remained resilient so far."
Nonetheless, as consumers try to maintain their spending levels despite the rising cost of living, the use of credit has catapulted tremendously.
The private credit industry has delivered annual gains consecutively over the past 13 years, making it one of the most resilient sectors in the global economy. Pitchbook estimates investors will allocate over $200 billion in commitments into private credit this year. This would mark the fourth consecutive year investors put more than $200 billion in the private credit space.
As consumers continue to borrow to make ends meet, many analysts predict that this might exert additional pressure on borrowers' financial positions, resulting in rising default rates. Industry experts hold a different view.
"I would expect default rates to tick up but not to dangerously high levels," said Michael Arougheti, CEO of Ares Management Corp. "The irony of this moment in time, which is unlike many cycles we've seen before, the stresses are being created by liquidity and high rates not deteriorating cash flow."
While Arougheti is not concerned about a major default wave in the near term, the increased cost of servicing debt could lead to heightened discussions between private credit managers and their borrowers.
"If rates stay high for long ... through the end of 2024, that debt service will force companies back to the table," Arougheti said.
Ares Management, co-founded by Arougheti, has been profiting from the Fed's hawkish outlook, as the rising interest rates boost the private credit firm's relative returns. Despite rising interest rates, Arougheti said there is a fundamental underlying strength, referencing data points from the 3,000 companies his firm lends to.
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