What’s Happening with Private Credit?

RJ Hamster

What’s Happening with Private Credit?

What’s Happening with Private Credit?

Nick Rokke

Senior Analyst

When asked why he was raising capital for a new fund right now, Andrew Milgram – founder of the distressed credit firm Marblegate Asset Management – answered…

“This is the greatest opportunity I’ve ever seen in my lifetime. I couldn’t imagine God would smile on me like this.”

A boon for distressed credit investors, panic is spreading through the private credit market…

Just turn on the financial news or go to any financial news website, and you’ll see a steady drumbeat of concern. Headlines warn of stress. Of redemptions. Of a potential unraveling in a $3 trillion corner of the financial system that most have never heard of.

But when we step back and put the fearmongering aside and take an objective look, we see something different.

Yes, we see stress in private credit. Yes, it may get worse. But the threat is not systemic nor a threat to the broader market.

How We Got Here

Private credit consists of loans made by non-banks, like investment funds and insurers, directly to companies. This form of credit has grown rapidly over the past decade into a $3 trillion market.

And today, it’s caught in the crosscurrents of what we’ve been calling the “AI Fear Trade.”

I wrote about this a month ago in The Bleeding Edge when I told you the truth about the AI Fear Trade. I posited that two contradictory points were true.

First, the AI infrastructure buildout is accelerating
Second, the “AI Fear Trade” has gone too far

I stand by that assessment. But in periods like this, perception matters more than reality… especially in the short term.

And right now, the perception is that software companies may struggle to generate enough cash flow to service their debt. And an estimated 20–25% of private credit lending goes towards software companies, which are currently the prime target of AI disruption.

That fear is pushing investors to head for the exits.

The Liquidity Problem

And here’s where things get more complicated.

Private credit isn’t like public markets. These loans don’t trade frequently. There isn’t a deep pool of buyers and sellers ready to transact at a moment’s notice.

So when investors want their money back… they can’t always get it right away.

In the past quarter alone, investors requested more than $20 billion in redemptions from private credit funds.

And that’s led to many funds “gating” redemptions. Most private credit funds limit withdrawals to about 5% of assets per quarter. So if investors request 8%… they won’t receive it all immediately. In some cases, funds returned less than half of what investors asked for.

Source: Robert A. Stranger data and Bloomberg calculations

At first glance, that sounds alarming. It kind of feels like a bank run. But it isn’t necessarily so. In fact, gating is designed to prevent something far worse.

Gating Isn’t a Crisis

Without these limits, private credit markets could experience the equivalent of a bank run… a sudden flood of selling in an illiquid market. That would force assets to be sold at deeply discounted prices, harming long-term investors and creating unnecessary volatility.

Gating slows that process down. It keeps the private credit markets orderly. But it also creates a kind of “game theory” in the markets. Meaning that if some institutional investors want to get $100 million of his money out of these markets, he may try to redeem $200 million across several funds, knowing he will only receive a portion.

That dynamic can make redemption activity look far worse than it actually is. In other words, the headlines may be amplifying the stress and not accurately measuring it.

Today, we’re going to talk more about the private credit market. Because while the fear is real, the implications are not what these headlines and articles would have you believe.

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This Isn’t 2008

At Brownstone Research, our mission is to help self-directed investors navigate the markets by focusing on what actually matters. We specialize in investing in growth assets, but at our core, we are investors first. That means stepping back when necessary and asking a simple question: Does this situation truly change the broader market outlook?

Right now, many believe the stress in private credit could spread and trigger something resembling the 2008 financial crisis. We strongly disagree.

Fear sells, it drives clicks, and it dominates headlines. But more often than not, it leads investors to make the wrong decisions at exactly the wrong time.

To be clear, we could see additional stress in credit markets.

Commercial real estate- especially office space – remains under pressure. And if lending to AI infrastructure were to slow meaningfully, that would get our attention. But systemic crises don’t come from isolated pockets of weakness. They require scale, interconnection, and, most importantly, leverage.

And this is where the current narrative begins to fall apart.

Start with exposure. Bank lending to non-depository financial institutions. This is the primary channel through which private credit could impact the broader financial system. But this kind of debt accounts for just 7.8% of bank balance sheets.

That’s simply not large enough to create a meaningful domino effect. It significantly limits the risk of hidden interlinkages, the kind that turn contained issues into full-blown crises..

Sources: Federal Reserve, S&P DataInsight, William Blair Equity Research

But the most important difference comes down to leverage. In 2008, major investment banks were operating at roughly 30-to-1 leverage. That meant a decline of just 3.3% in asset values could wipe out their equity entirely. Losses triggered forced selling, forced selling triggered more losses, and the system unraveled.

We saw a similar dynamic during the Savings & Loan crisis in the 1980s. These institutions only had a 3% capital requirement. And it was rarely enforced. This led to many S&Ls launching in the 80s. A $2 million initial capital investment could be leveraged into $1.3 billion in assets by the end of the first year of operation.

That mechanism simply does not exist in today’s private credit market.

Direct lending funds are either unlevered or modestly levered at around 1 to 1.5 times. That’s an entirely different risk profile.

In fact, traditional banks typically operate with around 10x leverage, making them structurally more sensitive to asset declines than private credit funds. One could agree that these loans make the financial system more stable than if banks held these loans.

When you combine limited exposure with low leverage, the conclusion becomes clear. This is not a house of cards waiting to collapse. It is a contained pocket of stress in a system without the structural vulnerabilities that defined past crises.

The transmission mechanism simply isn’t there. Contagion is not likely.

What to Expect Going Forward

But that doesn’t mean the headlines are going away anytime soon.

In fact, we should expect the opposite. As investors continue to reassess risk, we’ll likely see more redemptions from private credit funds. That pressure could spill over into related vehicles like business development corporations (BDCs), which many investors own for their steady, high-yield income streams.

As money flows out, prices will come under pressure. And we’re already seeing that show up in the market. Asset managers heavily involved in private credit – firms like Blue Owl (OWL), Ares Management (ARES), Blackstone (BX), and Apollo Global Management (APO) – are all down double digits this year.

At the same time, there are legitimate concerns worth acknowledging. Much of the private credit market has been built in the post-2008 era, meaning it hasn’t gone through a full credit cycle under stress. These loans are also relatively illiquid and often “marked-to-model,” where valuations are based on internal assumptions or third-party estimates rather than frequent market transactions. That can leave these loans being valued higher than they should be.

There are also structural features like Payment-in-Kind (PIK), where borrowers can defer interest payments by adding them to the loan balance. While this can help companies avoid immediate default, it can also signal underlying stress when used aggressively.

So yes, there will be some pain.

Defaults are expected to rise. Last year, about 4.5% of private credit loans defaulted. This year, estimates suggest that number could approach 9%, roughly in line with pandemic-era levels. But it’s worth remembering that even during those periods, private credit didn’t dominate headlines… because returns remained relatively stable.

And that gets to an important point.

When loans default, investors don’t typically lose everything. Historically, recovery rates have been around 60%, meaning lenders are often able to recoup a meaningful portion of their capital. That’s a key reason why the asset class has held up over time.

In fact, over the past two decades, as private credit has grown from a new asset class to a multitrillion-dollar industry it is today, it has returned remarkably consistent results. Since 2005, the asset class, as measured by the Cliffwater Direct Lending Index, has only had one negative year. That was in 2008 when the index showed a 6.5% pullback. And that drawdown was quickly recovered with double-digit gains in the following two years.

The Vultures Are Circling

This is why seasoned distressed investors are leaning in.

As we saw at the beginning of this issue, distressed-credit specialists like Andrew Milgram are actively raising capital to take advantage of this dislocation. Others are doing the same. Victor Khosla has called this the “biggest opportunity since 2008.”

The institutions are following suit.

Goldman Sachs is raising $13 billion. Blackstone is raising another $10 billion. JPMorgan, Morgan Stanley, and T. Rowe Price’s Oak Hill Advisors are all launching multi-billion-dollar funds to deploy into this space.

So yes, conditions in private credit may deteriorate further in the near term. But without leverage and deep ties into the core banking system, we do not see a path to broader financial contagion. The fact that institutions are committing tens of billions of dollars to this opportunity reinforces that view.

Stay Focused on What Matters

This is where investors need to stay disciplined.

It’s easy to get distracted by fear-driven narratives favored by the financial media. It’s easy to get pulled into headlines that suggest something bigger is breaking beneath the surface.

But while attention is focused on private credit, something far more important is happening in the background.

The AI buildout is accelerating.

Trillions of dollars are being committed to infrastructure, compute, and data centers. Demand for semiconductors, power, and networking equipment continues to surge. And this capital cycle is still in its early stages.

That’s the real story. And it’s the one that will drive markets higher over the coming years.

The risk isn’t that private credit creates a systemic crisis. The risk is that investors allow short-term fear to push them out of the most important investment trend of our lifetime.

Stay calm. Stay focused. And most importantly… stay invested.

Regards

Nick Rokke Senior Analyst, The Bleeding Edge