How the private equity boom will end

May 22, 2007, 4:58 PM UTC
Fortune

Signs of a bubble are everywhere in the buyout game. It felt like this in techdom in 1999, and yet it took many months for the air to begin to come out. What are the signs? The Chinese government is investing in the most prominent buyout firm of all, Blackstone. That feels a little like Japanese companies buying Pebble Beach or Rockefeller Center. Fed chairman Ben Bernanke warned last week that so-called bridge loans for the equity portions of buyouts could signal trouble. (It used to be that bridge loans were for senior debt, or the loans at the front of the bankruptcy line, not equity, which stands in the rear.) Bloomberg quoted Bank of America (BAC) CEO Kenneth Lewis saying the following about private equity:

We are close to a time when we’ll look back and say we did some stupid things. We need a little more sanity in a period in which everyone feels invincible and thinks this is different.

So how will it end? I discussed this in an interview last week with Marketplace Radio host Kai Ryssdal. (Listen to the interview here.) Eventually, the market will turn. Economic conditions won’t be as favorable. Rates will rise. Banks will start imposing stricter terms, something they aren’t doing today. BofA’s Lewis is right. Everyone always thinks this time is different. It isn’t. All that’s left to decide is who gets to play the greatest fool.