Private Credit in Context

In our recent research note ‘Private Credit in Context’, we reiterated our constructive view on the asset class amidst ongoing market volatility. Still, software sector concerns, rising default rates and redemption gates at prominent funds have led some investors to consider whether stress in private credit could trigger contagion that threatens the economic cycle. We seek to alleviate some of these concerns, drawing on recent analysis from the IMF, Federal Reserve and independent research.

Why contagion concerns appear overstated

Official assessments from the IMF and Federal Reserve stop short of calling private credit a systemic risk. While the sector has expanded to roughly US$2-3 trillion globally, this represents only 4-5% of global corporate lending, with bank credit to non-financial corporates exceeding US$50 trillion. Under a severe scenario where default rates reached Global Financial Crisis levels of 12%, total write-offs might amount to roughly 0.4% of US GDP, compared to 6-7% of GDP in estimated losses during 2008-09.

Banks do provide lending to private credit funds, estimated at roughly 5% of US bank loan portfolios, but these exposures are typically senior in the capital structure. Losses would first be absorbed by fund equity and junior investors before impacting bank balance sheets. The closed-end structure of most funds also limits run dynamics, as traditional closed-end funds require investors to commit capital for 7-10 years without redemption rights.

Perhaps most importantly, the investor base differs fundamentally from pre-crisis structured finance. Private credit losses would largely be borne by pension funds, insurers and other institutional investors rather than banks and households, substantially reducing the likelihood of widespread deleveraging cascades.

The more relevant consideration is indirect. Private credit has emerged as an important source of financing for mid-market companies, now accounting for a meaningful share of leveraged lending. If stress in private credit led to a pullback in new lending, it could tighten credit conditions for smaller firms that have limited alternative funding sources. This contrasts with the banking sector stress experienced during the Global Financial Crisis, where widespread deleveraging by major banks simultaneously restricted credit availability across the entire economy, amplifying the downturn.

The key difference is one of scale and interconnection. Banks are highly leveraged institutions whose capital constraints can force rapid deleveraging across their entire loan portfolios. Private credit funds, operating with far lower leverage and holding closed-end structures, face no comparable pressure to simultaneously reduce exposures across all borrowers. A more selective pullback in private credit lending would tighten conditions for affected borrowers but is unlikely to trigger the kind of systemic credit contraction seen in banking crises. Moreover, policymakers retain tools such as monetary easing and supervisory flexibility to address such dynamics if needed.

Current environment and manager selection

While recent headlines have raised contagion concerns, the evidence suggests these risks remain well contained. Private credit’s modest size relative to broader credit markets, structural protections limiting bank exposures, and closed-end fund structures all work to insulate the financial system. Official assessments from the IMF and Federal Reserve support this view.

Critically, the market volatility has been driven more by investor anxiety about potential future developments than by actual credit deterioration. Default rates, while rising from historically low levels, remain well below crisis scenarios and substantially below what recent equity market sell-offs would imply. The disconnect between market pricing and fundamental credit performance suggests an overreaction to tail risks rather than a measured assessment of likely outcomes.