What does this typically look like? Who is the intermediary here between the bank and corporate borrowers - are these buy side created SPVs?

The business owes the money or the fund. In any case the individuals do not unless they backed it with personal collateral.

It's why as a retail investor, never buy things that would otherwise have not been available to you (but was to those "elite"/institutional investors previously).

Think pre-IPO buy-in. Investors in the know and other well connected institutional investors get first dibs on all of the good ones. The bad ones are pawned off to retail investors. It's no different with private credit and private equity. These sorts of deals have good ones and bad ones - the good ones will have been taken by the time it flows down to retail.

I don't see it as adding fuel to the fire. I see it as helping the market price companies correctly

> what will break the clock ?

So unlike money-market funds, these private-credit funds can gate withdrawals and extend and pretend by turning cash coupons into PIKs. So I don't actually see credit concerns directly driving liquidity issues for the banks that didn't hold the risk on their balance sheet glares Germanically.

Instead, I think the contagion risk is psychological. Which is an unsatisfying answer. But if there are massive losses on e.g. DBIP and DB USA halts withdrawals, then the 2% stock loss Morgan Stanley suffered when it capped withdrawals [1] could become a bigger issue.

[1] https://www.wsj.com/livecoverage/stock-market-today-dow-sp-5...

As Buffett said, "only when the tide goes out do you learn who has been swimming naked" - luckily, skimming the news, there's no obvious huge exogenous macroeconomic shocks on the horizon that could cause "the tide to go out" so to speak, so everything should be ok for now.

My understanding is that many private credit funds have been very lax about conducting basic due diligence on the creditworthiness of borrowers.

For example, take First Brands, a multi-billion-dollar company which filed for bankruptcy last year. First Brands had pledged the same assets as collateral for loans from multiple private-credit funds. Those loans were being carried at a fantasy NAV of 100 cents per dollar, until suddenly they were not. Did none of these lenders submit UCC filings so other lenders could check which assets had already been pledged as collateral? Did none of these lenders ever check to see which assets had already been pledged? Did all these lenders make loans based on blind trust?

Failing to check and verify that assets have not been pledged as collateral to other lenders is an amateur mistake. It's reckless, really. The equivalent in home-mortgage lending would for a mortgage lender never even bothering to check that a homeowner isn't getting multiple first-lien mortgages simultaneously on the same home, then forgetting to put the first lien on the property title.

My take is that for many private credit funds, NAVs are basically fantasy.

good explanation, thanks

That's only loans to non bank financial institutions.

Total bank balance sheets are about $25T.

And then that 25% is 10% of US banks' entire lending portfolio, so private credit is about 2.5% of their entire portfolio.

With the current concentration of wealth and banking, it almost seems like there is an incentive for banks to ruin themselves when they end up in a little trouble.

If the bank has trouble, shareholders/executives lose - if the banking system has trouble... then QE will solve the bank trouble.

Deutsche gonna Deutsche.

Recruitment tables should just have a banner that reads 'we've already spent your bonus on legal fees, here's some chocolate'

Are you saying that they're using their private-credit portfolio as a Tier 1 capitalization to meet their regulatory demands (not sure if the ~10-15 something% rule has come back yet?)

Been a bit out of the finance game

> secured loans which will be less risky than the underlying loans

So, it's sort of like bundled mortgage securities, where you take some bad loans and mix them together to get a "less risky" loan, since the chance of them all defaulting at once is less than the chance of all but one defaulting.

Presumably, since banks (by definition, an intermediary) are involved, those are then recursively repackaged until they have an A+ rating, or some such nonsense, right? Also, I'm guessing there's no rule that says you can't intermingle these things across separate "independent" securities, even if the two securities end up containing fractions of the same underlying bad loans?

Clearly, like with housing, there's no chance of correlated defaults in a bucket of bad business loans that's structured this way!

In case you didn't quite catch the sarcasm, replace "housing loans" with "unregulated securities" and note that my description switches from describing the 2008 financial crisis to describing the Great Depression, or replace it with "bucket shops" (which would sell you buckets of intermingled stocks) and it would describe every US financial crisis of the 1800s.

> No. Non-bank financial institutions (NBFIs a/k/a shadow banks) compete with banks. They also borrow from banks.

How is this inconsistent with what I said? I was just making the point that the reason for the rise of private credit is that banks are less willing / able to lend, particularly to riskier borrowers, as a result of post-2008 banking regulations. So private lenders have stepped in to fill that gap.

I can't remember the names. Best bet if you don't want to listen is to just get summaries or transcriptions of the episodes you can an LMM questions on.

The info on his podcasts isn't telling you who to short. It's more who has gone under & general knowledge.

A private credit firm is a non-bank entity that raises money from wealthy investors, pension funds, etc to loan out to businesses. The funds are generally locked up for several years to match the duration of the loans.

They also borrow money from banks to add leverage to this basic setup.

Not who you asked, but I think making the nuance between retail and corporate credit. With firms being corporate credit (i.e. we aren’t talking about individuals / retail).

> What is the definition/significance of "firm"

Broadly speaking, privately-held companies are called firms. Colloquially, it tends to connote closely-held companies.

> That's not correctly stated

It is. (EDIT: It's a mixed bag. OP was correctly calling out a definitional error.)

Banks have loaned $300bn mostly to private-credit firms. Those firms then compete with the banks to do non-bank lending. It's a weird rabbit hole and I'm grumpy after a cancelled flight, but it feels like I'm in the middle of a Matt Levine writeup.

> Oooh, source? (I'm curious for when this was measured.)

It depends when you measure, but you can Google around and find figures in the 60-80% range. 80% may have been a bit on the optimistic end of the range. But it's important to note that a "default" doesn't imply a 0.

Of course this will depend on the covenants, underwriting standards, type of collateral.

I would guess software equity collateral recovery rates are lower than hard assets like a building. (Which is why I personally don't like Software loans, nothing to do with AI)

> Correct. The question is if 20% is enough, and if a 20% markdown creates a vicious cycle as funding for e.g. re- or follow-on financing dries up.

I think it's almost certain that new fundraising for private credit will be materially hindered going forward. But this just limits the growth rate of these firms, does not introduce any "collapse" risk.

They may move from net inflows to net outflows and bleed AUM over a period of some years.

If NAVs were inflated previously, they may be forced to mark down the NAV to meet redemptions rather than using inflows to payoff older investors.

In the world of credit, 20% is an enormous haircut. Again, senior secured loans fell by around 30% peak to trough in 2008.

We have the public BDC market as a comparison point where the average price/book is around 0.80x. So the public market is willing to buy credit strategies at a 20% discount to stated NAV.

The real systemic risk here, if we were to reach for one, is really that these fears become self fulfilling.

If investors pull funds out of credit strategies en-masse, there is no first order systemic issue, but it means borrowers of many outstanding loans may not be able to secure refinancing as money is drying up.

This could lead to a self-fulfilling default cycle. But this would be a fear driven default cycle, there is no fundamental issue with cash flows of borrowers or otherwise (in aggregate, currently).

Finally, in regards to the asset managers themselves, many are quite diversified.

Yes, they have private credit funds, but many have real estate funds, buyout funds etc. OWL is one of the biggest managers of data center funds, for example (which they also got hammered for on AI bubble fears)

Given how depressed pricing is in public REITs, for example, I expect a lot of asset managers to pivot towards more real asset funds.

Well, the question isn't "is there any consequence for the bank managers"? The answer to that is "No, never, not even during the French Revolution".

The question is "How long can they keep extracting money before the economy implodes?"

The people producing macroeconomic indicators in the US were fired about 6 months ago for putting out an honest report. Since then there's been very little correlation between public sentiment on the economy and the official indicators.

So, we're definitely in some sort of overhang situation, where the economy is imploding, but the stock market goes up. I think that's unprecedented in the US. In developing countries, when this happens, it usually leads to things like hyperinflation.

So, I guess the real questions are: "How do you short the dollar?", and "How can you tell when the banks start doing it?" so you know when to jump off the merry-go-round.

Its a big beautiful system!

Its un-fixable. The situation cant be explained simply enough for the majority of americans. Even if some of them do mange to understand, it will be quickly forgotten amid the flood of trump sewage we are sprayed with every day.