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Jamie Dimon made headlines this week when he said there could be hell to pay in the fast-growing private lending market due to the tandem risks of bad actors and poorly educated retail customers.
While that phrase makes for a typical, clickable Dimon death headline, the JPMorgan CEO also said this in his commentary on private credit: “There could be problems there. I don’t think it’s systemic.”
But we have to back up for a moment.
You may have heard the term ‘private credit’ in recent years. It is the counterpart of the public, tradable credit market. Companies like Blackstone (BX), Yahoo Finance parent Apollo (APO) and KKR (KKR) are raising money for a fund just as they would for a private equity vehicle. In this case, instead of buying shares in companies, they lend that money, either directly to companies or for real estate projects or other types of special loans.
The International Monetary Fund estimated the size of the private credit market at $2.1 trillion by 2023. That’s comparable to the total size of the fixed income market – which includes public credits (such as corporate bonds), government bonds and other types of loans – well above $100 trillion.
So what are the “problems” Dimon is referring to?
Private credit is not traded like, for example, government corporate bonds. It is therefore less liquid and its prices are less transparent. It’s fairly new, so there’s no useful history of standard trends. Private credit funds typically have lock-up periods, so if a private investor – Dimon mentions a “grandma” who might get into these vehicles – wants her money back sooner, she could cause a fuss, which could result in attention, for example from Washington or an attempted run on the fund.
That April IMF analysis does a good job of mapping the broader risks: ‘Valuation is infrequent, credit quality is not always clear or easy to assess, and it is difficult to understand how systemic risks might evolve given the few obvious interlinkages between private credit funds, private equity firms, commercial banks and investors.”
The IMF does not believe these risks are now reaching the level of systemic risk, as we saw during the Great Financial Crisis. But it’s something to watch.
One of the features of the subprime market that caused this crisis was how widely subprime loans were held – from major insurers to banks and asset managers. Private credit is the new investment category, and money is flowing in from pension funds, for example.
A former credit trader friend of mine says that although private credit is marketed as safer, this is not necessarily the case: “It doesn’t matter how you go about it. It’s credit, it’s systemic, and big losses would be a problem.” With private credit, “there is a false sense of security that underwriting is better, and that is not the case.”
And one more important note: Even as Dimon discussed the potential risks, his bank was obviously competing with private credit in its lending. In addition, JPMorgan has reportedly set aside $10 billion for direct lending and is considering an acquisition in this sector.
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