Key Takeaways
- • Private credit has grown into a $2 trillion industry, according to Duke Law School's research on the sector's expansion into a corporate lending market once dominated by banks and public bond markets.
- • Duke Law's Elisabeth de Fontenay and Harvard Law's Jared A. Ellias, in their paper The Credit Markets Go Dark, argue private credit will bring the privatization, concentration, and illiquidity seen in equity markets to corporate debt.
- • Their analysis of 335 business development companies (BDCs) and more than 1,600 balance sheets from 2006 to 2023 found the median loan size held near $3.25 million while the number of loans rose from a few thousand to well over ten thousand by 2022.
- • De Fontenay warns that lack of transparency could produce "more disasters," including zombie firms and a correlated crash, and complicates bankruptcy valuations.
- • U.S. regulators have so far declined to intervene, even as a Trump administration executive order may open retirement accounts to private equity and private credit, which de Fontenay says makes a private credit bubble "pretty high" risk.
Summary
Private credit, once a marginal part of capital markets, has grown into a $2 trillion industry as companies of all sizes increasingly borrow from private investment funds rather than banks or public bond markets. According to research from Duke Law School's Elisabeth de Fontenay and Harvard Law School's Jared A. Ellias, published in The Credit Markets Go Dark, this shift will bring corporate debt the same forces of privatization, concentration, and illiquidity that have reshaped equity markets with the rise of private equity. Several of the largest private credit funds, managing tens and even hundreds of billions of dollars, are operated by major private equity firms.
The appeal for borrowers is speed and flexibility. Private credit allows companies to borrow large sums in days rather than the weeks or months needed for a bank-led bond or loan offering. It can also eliminate the cost and delay of intercreditor disputes over distressed borrowers, since a single private credit fund often replaces a large group of creditors. Institutional investors, seeking higher yields after the 2007-2008 financial crisis low-rate environment, have driven much of the capital flowing into the sector.
To bring visibility to a segment of the market, the authors examined business development companies, SEC-registered funds that lend mainly to small and mid-sized, newer, and financially troubled companies. They analyzed more than 1,600 balance sheets filed by 335 BDCs between 2006 and 2023. The median loan size held steady at about $3.25 million, while the number of loans grew from a few thousand to over ten thousand by 2022.
De Fontenay argues the consequences are mixed. More capital can help firms grow and innovate, but private lenders may extend credit to companies in poor health, and neither the public nor regulators can readily see those conditions. She warns of "perverse incentives to hide the performance of their portfolio companies" and of "zombie firms" kept alive by continued lending or renegotiation. In a severe scenario, she said, many weak borrowers could fail simultaneously, producing a sudden crash. Valuation is another concern: in bankruptcy, judges can draw on trading prices of public debt, but private loans leave valuation largely to individual judges, potentially producing unexpected outcomes.
U.S. regulators have so far declined to intervene in the market. An executive order from the Trump administration may allow retail investors to hold private equity and private credit in retirement accounts. De Fontenay said this would likely expand inflows further, and that if retail money enters, "The risk that there will be a bubble in private credit is pretty high." She added that existing laws and institutions were designed for the prior market structure.
The appeal for borrowers is speed and flexibility. Private credit allows companies to borrow large sums in days rather than the weeks or months needed for a bank-led bond or loan offering. It can also eliminate the cost and delay of intercreditor disputes over distressed borrowers, since a single private credit fund often replaces a large group of creditors. Institutional investors, seeking higher yields after the 2007-2008 financial crisis low-rate environment, have driven much of the capital flowing into the sector.
To bring visibility to a segment of the market, the authors examined business development companies, SEC-registered funds that lend mainly to small and mid-sized, newer, and financially troubled companies. They analyzed more than 1,600 balance sheets filed by 335 BDCs between 2006 and 2023. The median loan size held steady at about $3.25 million, while the number of loans grew from a few thousand to over ten thousand by 2022.
De Fontenay argues the consequences are mixed. More capital can help firms grow and innovate, but private lenders may extend credit to companies in poor health, and neither the public nor regulators can readily see those conditions. She warns of "perverse incentives to hide the performance of their portfolio companies" and of "zombie firms" kept alive by continued lending or renegotiation. In a severe scenario, she said, many weak borrowers could fail simultaneously, producing a sudden crash. Valuation is another concern: in bankruptcy, judges can draw on trading prices of public debt, but private loans leave valuation largely to individual judges, potentially producing unexpected outcomes.
U.S. regulators have so far declined to intervene in the market. An executive order from the Trump administration may allow retail investors to hold private equity and private credit in retirement accounts. De Fontenay said this would likely expand inflows further, and that if retail money enters, "The risk that there will be a bubble in private credit is pretty high." She added that existing laws and institutions were designed for the prior market structure.
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