Originally published in Nikkei Asia's “Henry Kravis: My Personal History"
Chapter 19
Economic dynamism, urbanization and financial sophistication drive significant demand
Globally, credit markets were traditionally dominated by banks and other financial institutions that provided loans primarily to large corporations and governments. The landscape began to change significantly in the 1980s with the advent of the high-yield bond market, pioneered by Michael Milken as mentioned in earlier entries. By the end of the 1980s, the U.S. high-yield bond market had grown to over $190 billion in outstanding debt, and it has continued to expand, peaking at $1.7 trillion by 2023.
During the 1990s and early 2000s, the globalization of financial markets accelerated, driven by advancements in technology, the liberalization of capital markets and the proliferation of financial instruments. This period saw the rise of securitization, which allowed for the pooling of various types of debt (such as mortgages and credit card receivables) and the selling of the resulting securities to investors. By 2007, the global market for asset-backed securities (ABS) had grown to over $2 trillion.
The expansion of credit markets was not without risks. The global financial crisis (GFC) of 2008 exposed vulnerabilities within the financial system, particularly related to excessive leverage and the complex, seemingly opaque nature of certain financial products. However, despite the turmoil, credit markets proved resilient. In the aftermath of the GFC, the markets rebounded, bolstered by regulatory reforms and central bank interventions. By 2019, global bond markets had grown to approximately $100 trillion in outstanding debt, with the U.S. market alone accounting for over $40 trillion.
As credit markets continue to evolve, we believe the Asia-Pacific region presents a particularly compelling opportunity. The region's economic dynamism, rapid urbanization and increasing financial sophistication are driving significant demand for credit across a wide range of sectors. The region is also still primarily dominated by bank capital, accounting for nearly 90% of corporate lending, but it is facing a growing and acute supply and demand imbalance as companies seek more flexible financing and capital solutions.
This is particularly true in Japan, where companies have primarily relied on the country's banks for funding. We think that for Japan's economy to be truly resilient, it needs to have access to alternative sources of funding and different types of capital solutions.
As an investment market, Japan holds significant opportunities for value creation through corporate carve-outs, particularly as Japanese companies increasingly seek to divest non-core assets. We have partnered with Japanese companies on some of the largest corporate carve-outs. We encourage them to maintain a small equity ownership in the new standalone enterprise so they can benefit from our investment in those assets.
This trend has been fueled by rising shareholder activism and the need for companies to improve return on equity. We think these corporate carve-outs are an attractive opportunity to acquire high-quality assets at favorable valuations, providing the potential for substantial returns.
The market serves as a virtuous cycle whereby the more activity, the greater need for diversified financing -- this is a pivotal part of Japan's ongoing capital markets opportunity. The Japanese government has implemented various reforms to encourage the development of capital markets, including the promotion of corporate bond issuance and the growth of the securitization market.
In addition, Japan's commitment to revitalizing its economy through structural reforms, including efforts to boost private sector-led growth, further enhances the appeal of its credit market more broadly.
Japan is well-placed to benefit from the growing integration of regional economies, particularly with neighboring markets such as China, South Korea and Southeast Asia. As these markets continue to develop, the potential for cross-border flows and regional collaboration is likely to increase, creating a more interconnected and dynamic credit market in the region, an opportunity ripe for creativity.
Looking ahead, the ongoing structural shift across global credit markets is poised for further evolution, driven by changing economic conditions, continued bank de-leveraging, technological advancements and shifting investor preferences. The continued globalization of credit markets will likely lead to greater integration and interdependence among regional markets.
Emerging markets, particularly in Asia-Pacific, are expected to play an increasingly important role in the global credit landscape. Investors will need to navigate the complexities of these markets -- including regulatory differences, currency risks and geopolitical considerations -- to capitalize on the opportunities they present.
Asia-Pacific, and Japan in particular, offer significant opportunities for investors as these markets continue to develop and mature.