Private Credit Could Amplify Shock in Next Crisis, Fitch Says

Private credit could be a “meaningful” transmission channel during the next crisis, amplifying a systemic shock to the financial system with negative repercussions for a broad range of investors, according to Fitch Ratings.

The fast-growing asset class has already exhibited “bubble-like” attributes including financial innovation, heightened competition, growing retail participation and rising leverage, the ratings firm said in a report Monday.

“The private sector warrants continued close monitoring and would benefit from increased transparency,” the Fitch analyst wrote, arguing that “more consistent disclosures would help market participants gauge risks and resilience.”

In spite of this, Fitch said it does not currently view the risks associated with private credit as systemic. That’s because the $1.7 trillion market still represents a small slice of the financial system and relies on funds that typically have committed capital and moderate leverage.

The report comes at a time of heightened concerns about excessive risk-taking in credit markets, including a return of massive leveraged buyouts, sudden blowups such as auto-parts supplier First Brands Group and subprime auto lender Tricolor Holdings, as well as record-tight corporate credit spreads. Analysts and regulators have also been more vocal about hidden vulnerabilities in private markets.

Systemic shocks like rising margin calls or interest rate volatility could lead to elevated losses and redemptions, while weak underwriting and asset-liability mismatches could exacerbate the magnitude of transmission effects, according to the Fitch analysts.

Shocks would have far-reaching impact across the financial industry, with sovereign wealth funds, insurance companies, endowments and even individual investors among the most exposed, according to the report.

Private credit managers could suffer from reduced fee generation, losses on their co-investments as well as reputational damage, while banks would be exposed through the leverage that they’re increasingly providing to the industry, Fitch said.

Photograph: Traders work on the floor of the New York Stock Exchange during afternoon trading on September 05, 2024 in New York City; photo credit: Michael M. Santiago/Getty Images.