Behind the shadow
After a period of rapid growth, private credit is coming under increasing scrutiny, with the media and regulators focusing on potential losses and systemic risk. But are these concerns backed up by reality? Two new research papers offer more nuanced perspectives.
By Ann Leamon
Around for decades, private credit is only now attracting significant external attention, following its rapid growth to become an important part of the financing landscape. Pre-Global Financial Crisis, private credit AUM stood at around US$100bn, but by 2025, it had grown to US$2.5trn, according to PitchBook.
Some recent scrutiny of the asset class has centred on the potential systemic risks that it poses, with the Bank of England embarking on a major stress test that includes both private credit and private equity. EU regulators are also moving to include non-bank financial institutions in stress tests.
Reported comments from JPMorgan Chase CEO Jamie Dimon last year dialled up negative media coverage when he said of potential losses linked to private credit: “When you see one cockroach, there are probably more.” (That’s despite the losses that prompted the comments being largely borne by traditional banks and the broadly syndicated loan market). Adding to this have been reports about private debt portfolios’ exposure to software as a service businesses, some of which may well be disrupted by AI developments.
Debt financing is critical for middle-market growth. These firms may not meet bank lending criteria, but there is a sound investment case for lending to them. Private credit, or non-bank financing, fills that gap, albeit at a higher interest rate to reflect the risk.
Richard Miller, TCW
These kinds of headline have helped fuel a run on several evergreen private credit funds as predominantly wealth and retail investors have made large volumes of redemption requests. As a result, a number of major players, including Apollo Global Management, Blue Owl, Cliffwater, Morgan Stanley and Ares Management, have all had to limit investor withdrawals in recent months.
The scarcity of publicly available data on private credit is partly fuelling some of these concerns. After all, it can be easy to draw conclusions that may or may not be valid in an information vacuum. So two new academic papers on private credit may help to shed some light on the asset class.
In ‘Why is Private Lending So Popular?‘ David T. Robinson and Melanie Wallskog (both Duke University) explore the private lending landscape. Using data from the Form 10-K filings at the US Securities and Exchange Commission (SEC) of 53 publicly traded BDCs between 2001 and 2023, the paper concludes that BDCs differ from traditional lenders and are substantially heterogenous, so require tailored regulatory schemes.
Since banks have reduced lending to small and medium-sized companies following the GFC, private credit has become an important source of debt to otherwise underbanked businesses. BDCs use complex bundles of debt and equity to take on more risk than traditional banks, placing them between banks and private equity firms in terms of risk and return.
PIK Now and Pay Later: How Deferred Interest Reshapes Private Credit, by Paul Rintamäki and Sascha Steffen (both Frankfurt School of Finance & Management) examines PIK interest structures, which allow borrowers to capitalise unpaid interest in private lending. The authors explore whether the PIK option is prudent liquidity management or simply a way of deferring defaults.
Using BDC loan data filed at the SEC alongside portfolio company-level information from PitchBook and Capital IQ between 2012 and 2024, the researchers find that switching to PIK interest part-way through a loan just about doubles the likelihood of nonaccrual status in the next quarter to around 6%. PE-sponsored borrowers, though, experienced a smaller increase in the probability of distress.
Further research suggests that PIK-heavy BDCs do not appear to pose a direct risk to the banking system, as many banks providing credit lines limit their exposure to BDCs with extensive PIK holdings.
