Private equity looks warily at hedge fund debt

"We haven't seen borrowers excluding hedge funds because of their interest in being a direct lender per se," says Scott Miller, managing director, European leveraged finance at Citigroup. "We have seen borrowers wanting to establish control over the early stages of syndication, and in particular over commitments rather than funded loans. Their concern is that new investors should be able to honour the commitment to lend in the future."

Consequently hedge funds have been barred from some deals. Stephen Mostyn-Williams is an acquisition finance lawyer and principal of smwlaw. "I recently saw one document which simply said that no hedge funds could take part in syndication," he says.

It would appear that the balance of power is shifting back towards borrowers, allowing them to dictate their terms more than had recently been the case. Traditionally, bank lenders have retained the right to sell their debt if there is an event of default. Now borrowers are trying to document deals to retain trading constraints even after a default.

Banks syndicating leveraged debt will find themselves torn between courting hedge funds' business and keeping their private-equity clients – potentially a source of financing, M&A, and IPO mandates – happy.