The private credit space continues to garner significant attention from portfolio managers.

With the structural outlook positive and investor appetite expected to be steady, assets under management (AUM) is expected to log a compound annual growth rate (CAGR) of 17.4%i between 2021 and 2026, reaching $2.7 trillion.

However, red flags are emerging. Higher interest rates, shrinking liquidity, and tougher economic conditions for borrowers are buffeting the private credit market.

CRISIL foresees a combination of factors — weakening macro environment, relaxed underwriting standards, and elevated portfolio risks — impacting the market over the medium term.

We analyzed the portfolios of over 30 lenders (private credit AUM ~$1 trillion; funds chosen based on AUM size, data disclosure, and pure-play focus) in the United States (US) and European markets, and found:

• High- and medium-risk sectors accounted for 50.3% of the sampled private credit portfolio. The portfolio analysis also revealed elevated sector (the top single-sector exposure averaged ~37%) and borrower (the top 10 investments averaged ~54%) concentration risks.
• High-risk sectors (defined by the current distressed ratio analysis) such as healthcare equipment and services, and capital goods formed 17.3% of the total portfolio, while medium-risk sectors comprising technology hardware and equipment, and software and services accounted for 22.2%.
• In a high-stress scenario, the default rates for high- and medium-risk sectors are likely to jump 400bps and 380bps, respectively, from current rates. Meanwhile, in a peak-stress scenario, the default rates could spike as much as 730bps and 550bps for high- and medium-risk sectors, respectively.