A Blackstone office in New York City in July, 2025. Blackstone Secured Lending Fund is one of the biggest players in the private credit sector.Mike Segar/Reuters
Chris Gay is a contributing columnist for The Globe and Mail. He is a former Wall Street Journal staffer and writes the newsletter Figure at Center.
If you wanted to create conditions ideal for a financial crisis, a key ingredient would be opacity. An unregulated, opaque market is potting soil for uncertainty, a market’s worst fear, which matters in a global, tightly coupled financial system where a confidence crisis anywhere can become a confidence crisis everywhere.
This is why investors should be wary of the systemic risk posed by “private credit,” a species of shadow banking that has grown enormously in the past 25 years. Also known as “direct lending,” it is a form of non-bank lending to small- and mid-sized startups that surged after the 2008-09 crisis, when U.S. regulators effectively restricted activity by large public banks.
The sector has partly displaced those banks, operating primarily through private, closed-end funds and publicly traded “business development companies” that raise capital and generally hold the loans they originate to maturity. The biggest players include Ares Management, HPS Investment Partners and Blackstone Secured Lending Fund. Banks themselves are expanding private-credit operations.
These dark corners of the market can be frightening. Last month, BlackRock’s BDC, BlackRock TCP Capital, disclosed a 19-per-cent plunge in the net asset value of its holdings, citing writedowns on assets it had valued at near cost two months earlier. Just last week, shares of private-credit funds plunged on fears that the advent of powerful new artificial-intelligence tools will undermine their investments in conventional software companies.
Once the hottest bet on Wall Street, private credit has started to crack
The private-credit sector has been described as a private junk-bond market, providing high-interest loans to steeply leveraged, unlisted companies, often unprofitable software startups. Investors in private-credit funds, attracted by high yields and assurances that their loans are backed by hard assets, agree to lock up their money for years and pay fees well above what standard mutual funds charge. Borrowers like the speed and flexibility of private lending.
Moody’s expects global private-credit assets under management to exceed US$2-trillion next year and approach US$4-trillion by 2030. For a sense of scale, outstanding credit to non-financial businesses in the U.S. totalled US$14-trillion as of the third quarter.
The biggest problem with private-credit funds is that they operate largely in the dark, providing investors limited disclosure and no real-time public pricing (regulated BDCs are more transparent). The value of their assets at any moment is whatever the manager says it is, based on internal analysis and outside consultants. That, says Moody’s, makes “it difficult to assess the underlying risks.”
Last year’s failure of auto firms Tricolor and First Brands, to which several big private-credit funds had exposure, prompted large redemptions from the funds and a viral observation by JP Morgan’s Jamie Dimon: “When you see one cockroach, there are probably more.”
The rush for the exits from recent turmoil seems to have abated, but to the extent that private lending remains a black box, there’s always a heightened chance of a full-fledged panic. That possibility rises as private-credit assumes a greater systemic footprint, something the Trump regime is encouraging by calling for regulatory changes that would allow these relatively risky assets into traditionally conservative pension plans.
The increased intertwining of private lenders and banks, initially seen as separate alternatives, is creating new channels for transmission of financial contagion. The International Monetary Fund warned last October that U.S. and European banks could be destabilized by their US$4.5-trillion of exposure to non-bank lenders.
Meanwhile, alarms that went off before the 2008 crash are ringing again, among them credit-ratings arbitrage and the packaging of loans much like the securitized mortgages that fuelled the housing bubble.
Another rhyme with the 2000s: Moody’s worries that competition in the sector will encourage looser lending standards, and expects that private-credit funds “will likely be more central in the financial system in future stress periods” and large banks less so. “In other words, the locus of contagion has shifted toward nonbank lenders, including private credit.”
For now, the U.S. Federal Reserve says large banks “are generally well-positioned to withstand significant additional credit and liquidity stresses to major categories of [non-bank] lending exposures.” But the history of financial crises warrants erring on the side of prudence. Private credit, like any significant financial sector, has potentially adverse systemic consequences that the public has a legitimate interest in mitigating. Key U.S. lawmakers are urging the Fed to take action.
Moody’s suggests expanded disclosure and “targeted monitoring of risk factors such as degree of interconnectedness, leverage, credit concentration, and counterparty exposure.”
That would be a welcome start. As the calamity of 2008 showed, when American finance does a bellyflop, everyone gets wet.