Is Private Credit a Threat to The Financial System

Private credit is a $1.8 trillion shadow banking sector built on the illusion of stability. For over a decade, firms like Blackstone and KKR offered returns as high as 13% while advertising loss rates below one-tenth of 1%, a figure that made bank risk officers weep with envy. The secret to these miraculous numbers was simple: when borrowers failed, lenders simply took the keys quietly instead of filing public bankruptcies.

A Goldman Sachs Asset Management study revealed the scale of the deception: of 150 European companies that hit credit events since 2017, only 4 went through public bankruptcy. The other 146 were quiet handovers where lenders avoided the spotlight. When public speculative-grade debt is defaulting at 4.5%, private credit's advertised sub-0.1% loss rates are statistically implausible without systematic underreporting.

The cracks became visible with recent collapses like First Brands Group and Tricolor, where borrowers had been double-pledging collateral to multiple lenders. In the UK, Market Financial Solutions collapsed amid fraud allegations after years of using new loans to pay off old ones in a refinancing merry-go-round. One fund manager who passed on MFS in 2019 cited the «watch-to-house ratio» — the founder wore a £200,000 Richard Mille watch while living in a house worth only twice that, suggesting the success was performance art funded by the lenders themselves.

As institutional money dried up, alternative asset managers turned to retail investors in what insiders call a scandal. Boaz Weinstein noted that private credit products are «sold and not bought» — most individuals don't ask for opaque middle-market loans; they're pushed by financial advisors earning upfront commissions as high as 3.5% plus ongoing annual servicing fees. This creates a glaring conflict of interest where advisors recommend products that benefit their bottom line, not the client's retirement.

The vehicle used is called a non-traded BDC (business development company), marketed as «semi-liquid» with quarterly exit windows. The catch: total redemptions are capped at 5% of the fund's net asset value per quarter for the entire fund, not per individual investor. In quiet times, you might exit fully; when everyone rushes for the door, the fund gates close and you get a pro-rata «amuse-bouche of liquidity» — a small taste while the rest stays locked.

This design flaw creates what Bill Dudley calls a dangerous adverse feedback loop. Once investors realize there's a withdrawal limit, they have incentive to always request the maximum just to get in line. To meet requests, managers sell their best liquid assets first, leaving remaining investors stuck with the cockroaches. The fundamental mistake was believing you could offer a little liquidity to retail investors in the first place — liquidity is binary, either there when you need it or it never existed.