The rapid rise in private credit has been key to global trade for more than a decade. There are now signs of strain in the $3 trillion market, raising larger questions about how far the fallout from private credit could spread into private equity. Industry veterans say the two pillars of the private market have become deeply intertwined over the past decade, with direct lenders stepping in as the primary financing engine for acquisitions after banks exited in the wake of the global financial crisis. “The majority of the PE ecosystem is funded by private credit,” said Kyle Walters, private capital analyst at Pitchbook. “The two countries are structurally intertwined when it comes to agreement activity.”For private equity firms, direct lenders have become preferred partners in leveraged buyouts because they offer faster execution and more flexible, tailored financing structures. About 80% of private equity acquisitions are financed with private credit, said Jeffrey Hook, a senior finance lecturer at Johns Hopkins Carey Business School. Tighter private credit will impact new private equity deals and existing portfolio companies, as lenders become more cautious and borrowing costs rise. A renewed emphasis on tighter underwriting practices, including wider spreads and stronger contractual covenant protections, has made financing more expensive and tightened restrictions on buyouts, Pitchbook’s Walters said. For companies already owned by private equity, the impact is most severe, with higher interest costs, tighter refinancing terms and increased covenant pressures squeezing cash flow, especially for highly leveraged borrowers, experts say. As a result, companies that relied on cheap and plentiful credit during the low interest rate era of the 2010s and early 2020s are now even more exposed to risk, and weaker companies are struggling to defer debt or withdraw investments. At the same time, falling loan valuations (lowering of loans by private credit funds) indicate stress at the corporate level, forcing private equity managers to devalue assets and accept lower returns, Hook said. “It will (also) slow down new private equity funds,” Hook said. “The more leveraged private equity deals are the most exposed to risk, and most investors just have to ride it out.” Consultancy GraceSparks highlighted that more than 81% of private credit assets under management are held by companies that also run private equity funds, highlighting how concentrated the market is among large private capital managers. That intimacy now amplifies the risks. Private equity already under pressure Experts highlight the risk of a negative feedback loop: deteriorating credit conditions hurt portfolio companies, resulting in lower valuations and exits, further constraining financing and trading activity. “PE-backed companies were already in a vulnerable position,” Pitchbook’s Walters said, pointing to aging assets and the exhaustion of value-creating strategies such as cost cutting, financial engineering and multiple expansions. Credit stress now adds “obvious additional force”. Tighter lending conditions are directly impacting the transaction economy. As lenders become more cautious, acquiring companies are forced to reduce the amount of debt they use to finance acquisitions, lowering offering prices and compressing overall market valuations, he said. Refinancing risk is also increasing. Businesses that relied on flexible, bespoke private credit loans in the era of low interest rates, especially those in sectors facing structural turmoil, are now finding it harder and more expensive to roll over debt. Private equity portfolio companies were already under pressure before the recent credit stress. Many were acquired at premium valuations and financed with aggressive leverage between 2019 and 2022, but that assumption is now being tested in a higher interest rate environment. Lucinda Guthrie, head of Mergermarkets, said global private equity buyout activity fell 14% year-on-year in the first quarter as geopolitical uncertainty, unrest in the private credit market and scrutiny of AI by investment committees created a tougher environment for investors. “The disruption to private credit will definitely reduce new investment in private equity,” said Edward Altman, a finance professor at New York University’s Stern School. Private equity and private credit have lost their halo of consistent outperformance. Dan Rasmussen, Verdad Advisors A deeper concern for investors is that this situation exposes the structural weaknesses of the private market model itself. “The basic sales pitch for private credit is low risk and high yield,” said Dan Rasmussen, founder of Verdad Advisors. “Allocators are facing for the first time the idea that private is not better.” “Private equity and private credit have lost their halo of consistently outperforming,” Rasmussen added. Large alternative asset managers with both private credit and private equity businesses have so far taken a cautious stance, acknowledging some stress but emphasizing resilience. According to the report, Ares CEO Michael Arrogetti said there was “no sign of a major default cycle” and insisted that the stress was primarily cyclical rather than systemic, even though some funds across the industry have put redemption limits in place to cope with increased investor withdrawals. Recent comments from JPMorgan’s Jamie Dimon suggest a cautious view of the risks to private credit. Dimon said the fast-growing asset class is not a systemic threat to the broader financial system, despite increased scrutiny of sector-specific pressures such as rising defaults, capital outflows and disrupted AI. On a recent call with analysts, Mr. Dimon pointed to some loosening of underwriting standards across the market, a trend that extends beyond private credit. “Underwriting has weakened a little bit, and it’s not just from private credit,” he said. The bank had about $50 billion in private credit exposure in the first quarter as part of broader lending to non-bank financial institutions, Reuters reported.
