Private credit has become one of the fastest-growing areas of modern finance. While the term can sound technical, the basic idea is straightforward: private credit generally refers to loans made by non-bank lenders directly to companies, often outside the traditional public bond market.
In the past, many of these loans might have come from banks. But after the financial crisis, banks faced tighter regulations and became more selective about certain types of lending. Private investment firms stepped into that gap, offering capital to businesses that needed financing. Over time, this created a large and increasingly influential market.
For investors, the appeal is easy to understand. Private credit can offer attractive income, especially in a world where investors are constantly searching for yield. It may also appear less volatile than publicly traded bonds, since private loans are not priced minute by minute in the open market. In some cases, private credit gives investors access to opportunities they would not find in traditional stock or bond portfolios.
But the same features that make private credit appealing can also make it risky.
Because private loans do not trade publicly, they can be harder to value. A public bond has a market price that changes as conditions change. A private loan may be valued less frequently, based on models, assumptions, or manager estimates. That can make the investment appear more stable than it really is. Less visible volatility is not the same thing as lower risk.
Liquidity is another key concern. Many private credit investments involve loans that cannot be easily sold. If an investor wants to get out quickly, there may not be a ready buyer. Some newer investment vehicles offer periodic liquidity, such as quarterly redemptions, but the underlying assets may still be highly illiquid. That mismatch can become a problem during periods of stress, especially if many investors want their money back at the same time.
Credit quality also matters. Many private credit borrowers are smaller companies, highly leveraged businesses, or companies backed by private equity sponsors. These borrowers may be more vulnerable to higher interest rates, slower growth, or tighter financing conditions. If earnings weaken or refinancing becomes difficult, defaults can rise.
This does not mean private credit is destined to create a financial crisis. It is not automatically “the next 2008.” But it does mean investors should be careful about assuming that private markets are safer simply because they are less visible. Risk does not disappear just because it is harder to observe.
The most important questions are basic ones: Who is borrowing the money? How much debt do they already have? How are the loans valued? What happens if investors want liquidity? How would the investment perform in a real downturn? And how much of the return is compensation for taking on risks that may not be obvious at first glance?
Private credit can play a role in some portfolios. But it requires careful due diligence, realistic expectations, and a clear understanding of liquidity risk.
At Hanover, our view is simple: complexity should never be mistaken for safety. Before investing in any private-market strategy, investors should understand what they own, how it is valued, how they can access their money, and what could happen when market conditions become less forgiving.