When the Safe Bet Gets Risky: Rethinking Sector Risk in Private Credit
Software has long been one of private credit’s favourite sectors, sticky revenue, high margins, predictable cash flow. AI tests those assumptions, and other sectors carry new risks of their own. We spoke with Martin Siml, Managing Director for Private Credit DACH & BeNeLux at Barings, about how sector risk is being reassessed, where he still sees opportunity, and where he thinks his peers are getting it wrong.
Martin, you’ve been in leveraged finance and private credit since 2005, starting at WestLB, twelve years at ODDO BHF, and now at Barings since 2024. You’ve seen multiple cycles, how has your own view of risk changed?
It’s really been one long cycle since the financial crisis, low rates, low defaults, slow but steady growth, which made underwriting straightforward, even in cyclical sectors. That’s changed. The shift toward higher-multiple, more specialized sectors in private equity and subsequently private credit isn’t new, it happened a few years back, moving from typical structures around seven- or eight-times valuation and three-and-a-half to four times leverage toward higher-multiple targets. Credit funds have been instrumental in developing this segment.
What’s different now is that positioning needs a fresh look: underwriting at the top of that risk spectrum means taking on more hybrid/mezzanine-like risk, and higher exposure to exit multiples.
Software has long been one of private credit’s favourite sectors, sticky revenue, high margins, predictable cash flows. But AI is starting to challenge some of those assumptions. How has this changed the way you evaluate a software credit?
What’s said about the attractiveness of software is still true today. The question is whether it still holds in five or seven years, by the time the company gets sold. Some business models are clearly exposed to AI risk, but most are still deeply entrenched. How that evolves is genuinely hard to predict.
We take comfort from access to proprietary data or genuine embeddedness in a client’s value creation process. AI due diligence is now standard for us; we won’t look at a software deal without an AI scope.
On structuring, we’ve seen more mezzanine risk stacked on top of unitranche, sometimes one to three turns of second lien, to achieve attractive blended returns which we’re critical of. The market has adapted; there’s a premium being charged now for software credits and we’re in the middle of an adjustment period I think will last a while.
Barings just announced the close of over $19 billion in capital for its direct lending strategy. Does that mean a different sector is now getting more attention from you?
Players heavily focused on software are now looking for alternatives and a more balanced sectoral approach. We were never overexposed to software; we spread across Europe to widen the pool of investable sectors.
In Germany specifically, medtech is one of our favourite sectors, and healthcare more broadly, tricky in the past, is attractive if you’ve learned the lessons. Generally, we stay open rather than segment-focused, it’s about a diverse portfolio, regionally and sectorally.
How does that same lens apply to Germany compared to other regions, given the market is less tech-weighted? Is there anything else shaping your view of different regions right now?
DACH and BeNeLux differ slightly in their industrial base but have highly attractive companies at mid-cap level. BeNeLux for instance leans heavily on business services or suppliers tied to the ASML ecosystem.
BeNeLux has always been ahead on private equity penetration and is a very commercial, terms-driven market. It used to be overlooked, that’s no longer true. Germany is a big economy with a large funnel of deals and sectors, and there are plenty of mid-cap tech companies here, contrary to what people assume.
Currently, even manufacturing is back in scope, but the challenge is to avoid the obvious automotive exposure which has been a feature of the German market. There are some hidden gems in the space of technical components which can achieve attractive margins and are well diversified on the customer side beyond the automotive sector.
Hot take: what’s one view you have on sector risk in private credit that some of your peers would disagree with?
What’s genuinely difficult is defense. It’s a hot topic, but these companies are typically concentrated in client base, sometimes product too, and while long-term contracts make revenue look visible, the timing of when it flows in is uncertain. Growth that used to be shallow is now substantial, shifting capital needs toward working capital rather than a standard term loan, a structure credit funds generally struggle with.
We are invested in defense ourselves, just in situations where those specific features aren’t present.
This interview is part of Leverest Credit Talk — featuring senior voices from across the private credit and leveraged finance landscape. Learn more about Leverest → leverest.net