Lou Sokolovskiy’s Post

🚨 The private credit market has exploded to over $2 trillion, but is the lack of oversight setting the stage for the next financial crisis? 🤔 The private credit market, dominated by non-bank lenders, has seen explosive growth, reaching $2.1 trillion in 2024. 📈 Institutional investors such as pension funds and insurance companies have eagerly invested in funds that, though illiquid, offered higher returns and less volatility than public investments. While it has provided valuable financing to companies, its rapid expansion in an opaque and interconnected ecosystem is raising red flags. 🚩 Key risks to keep an eye on: - Borrowers tend to be smaller and more indebted, vulnerable to rising rates 📉 - Valuations are infrequent and subjective, masking potential losses 🙈 - Hidden leverage across multiple layers makes systemic risk hard to assess 🔍 - Significant interconnectedness with banks, pensions, and insurers 🕸️ - Potential liquidity risks as retail investors enter the market 💸 While not an immediate threat, unchecked growth could lead to defaults, losses, and liquidity strains in a severe downturn, with ripple effects across the economy. 🌊 Policymakers must adopt a more vigilant approach, enhancing supervision, addressing data gaps, and implementing tighter standards to safeguard financial stability. ⚠️🔒 The time to act is now, before hidden risks in private credit markets become tomorrow's systemic crisis. 🕰️ #PrivateCredit #FinancialStability #RegulatoryOversight #SystemicRisk #MarketTransparency https://lnkd.in/d56VupNY

Private credit is a large and growing element of insurers' investment portfolios. The sector is looking to catch the next wave of growth — in asset-based lending. In part, that is to sustain its extraordinary growth trajectory and to satisfy the sea change in allocations to credit. But firms are also tapping into it because leveraged lending has become more crowded. How large is the addressable market? Our new estimates suggest specialty finance is a $5.5 trillion asset opportunity in the United States alone, where private credit today has less than a 5% share. The need to secure access to these new asset classes is prompting private credit players to change tack, looking to partner up with banks rather than be their adversaries. We explore what Private Credit 2.0 might look like — for banks and investors. Read more here: https://lnkd.in/d_zRDx4B #privatecredit #assetmanagement #strategy #innovation #reinventinginsurance Huw van Steenis Dylan Walsh Julian Gorski https://lnkd.in/dh_h2Nx2

A chapter in the IMF’s latest Global Financial Stability Report urges the fast-growing $2 trillion private credit market warrants closer watch. Rapid growth of this opaque and highly interconnected segment of the financial system could heighten financial vulnerabilities given its limited oversight. The private credit market, in which specialized non-bank financial institutions such as investment funds lend to corporate borrowers, topped $2.1 trillion globally last year in assets and committed capital. About three-quarters of this was in the United States, where its market share is nearing that of syndicated loans and high-yield bonds. This market emerged about three decades ago as a financing source for companies too large or risky for commercial banks and too small to raise debt in public markets. In the past few years, it has grown rapidly as features such as, speed, flexibility, and attentiveness have proved valuable to borrowers. Institutional investors such as pension funds and insurance companies have eagerly invested in funds that, though illiquid, offered higher returns and less volatility. Read the blog by Charles Cohen, Caio Ferreira, Fabio Natalucci, and Nobuyasu Sugimoto 👉 https://lnkd.in/e-Qhd_iB Read the full report 👉 https://lnkd.in/eKugUMej #IMF #economy #GFSR #finance

The private credit market has witnessed a remarkable surge in recent years. This growth can be attributed to several factors, including evolving bank regulations and pressure on risk-weighted assets (RWAs). As a result, "de-banking" and "re-tranching" for certain credit assets have become increasingly attractive options. I firmly believe that private credit is still in its early stages of development. One way I've been capitalizing on this trend is through the inclusion of credit interval funds in my portfolio for the past few years. These funds offer valuable diversification benefits and have delivered healthy risk-adjusted returns thus far. It’s also an instrument that should do relatively well in a rising rate environment due to the floating nature of the interest rates charged. If you're curious to learn more about how credit interval funds can enhance your portfolio, please see the article I wrote on the topic a few months ago. It's important to remember that the private credit landscape encompasses a diverse range of loans, including corporate, asset-backed, and specialty finance options. Each type of loan carries its own unique characteristics and covenants. Therefore, selecting the right funds requires careful consideration. Private credit, by its nature, demands specialization, experience, and reach, especially for accessing the most suitable credit facilities. Parallels can be drawn to other sectors of the economy, where larger players often possess a distinct advantage due to their scale. Another interesting debate for another post is the paradox facing regulators as they move highly-regulated bank balance sheets to less regulated shadow banking and the systemic risk it can create over time. #privatecredit #intervalfunds

A more complete assessment of the "systemic risk" debate surrounding private credit. Seth Levine, CFA summarizes many of the dynamics that have resulted in "private credit" taking center stage and the impact on the banking / broker dealer institutions. Importantly, he also identifies the common cause of banking panics in the modern US: liquidity issues driven by asset / liability mismatches. "[T]he five banking panics preceding the Fed’s founding in 1913. Liquidity mismatches caused them all." The fund structure of most private credit vehicles (long-term) matches the typical asset composition, so the risk of unplanned / untimely demands for capital driving a crisis in private credit are limited. #privatecredit https://lnkd.in/gYKsmqZQ

The private credit market is experiencing significant growth even as increased competition, rising default rates and hidden leverage could soon put the asset class to the test. #PrivateCredit #DirectLending #CreditQuality #AlternativeInvestments https://lnkd.in/e6CUAGws

Private Credit Outlook: Keep Calm and Diversify 🌱 As 2024 nears its close, lower interest rates and a steady economic pace are paving the way for renewed confidence in private credit markets. Matthew Bass of AllianceBernstein shares how falling rates could reduce the cost of capital and ignite M&A activity, especially in the middle market. At Percent, we recognize the growing importance of diversification in navigating these dynamic times. Direct lending, particularly to middle-market companies, continues to offer quality opportunities with strong protective covenants—a key theme we're seeing in the market. Investors should remain focused on quality, diversify across various forms of debt, and embrace the new economic backdrop with a strategic approach. Learn more about private credit’s outlook for 2025 and beyond. https://lnkd.in/dcd9nX9J #PrivateCredit #AlternativeInvestments #DirectLending #PrivateMarkets #InvestmentStrategy

"But, 16 years later, some experts believe new risks are emerging. And this time, they are linked to highly indebted companies backed by private equity firms, which are part of the growing but opaque portion of the financial system known as the shadow banking sector. Shadow banking refers to financial firms that face little to no regulation compared with traditional lenders, and includes businesses such as hedge funds, private credit and private equity funds." "And in June, the financial policy committee highlighted risks related to the private equity industry more broadly: “Vulnerabilities from high leverage, opacity around valuations, variable risk management practices and strong interconnections with riskier credit markets mean the sector has the potential to generate losses for banks and institutional investors.” And Govt wants pension money piling into this?

The Private Credit sub-asset class of alternatives has grown tremendously over the past 10 years. Changes in banking regulation and allocators seeking higher yields have both fueled the growth in AUM. This was a good look under the hood of the space and how it compares the traditional credit space:

Does private equity financing pose a systemic risk? The IMF seems to think it might. "The Washington-based organisation said there were “systemic risks” posed by the $2.1 trillion “opaque world of private credit”, which has boomed in recent years against a backdrop of record low interest rates. Companies deemed too large or risky for commercial banks and too small to float their shares on the stock market have increasingly turned to non-bank funds to borrow money quickly, flexibly and confidentially. However, regulation in this corner of financial markets is relatively lax and the IMF said a severe economic downturn could quickly expose vulnerabilities" This comes in a context where Non Banking Financial Institutions have overtaken traditional banks share of total financial assets.