The $2 Trillion Private Credit Market: A Hidden Time Bomb in the U.S. Economy?

In 2010, two years after the 2008 financial crisis pushed the U.S. banking system to the brink of collapse, the U.S. Congress passed the Dodd-Frank Act. The law forced banks to hold more capital against high-risk commercial loans. As banks’ capacity shrank, private investment firms began to take over the corporate lending business. Large private equity firms such as Apollo, Blackstone, Ares, and KKR quickly stepped in to fill the void left by banks.

Roughly 15 years later, they have built a $1.7 trillion shadow finance empire known as “private credit,” or private lending. In the era of zero interest rates, private credit funds that promised far higher yields than Treasuries drew in institutional investors such as pension funds, insurers, and sovereign wealth funds. The asset class came to be seen as “alternative finance outside the banking system.”

Now, however, the second Trump administration’s sudden tariffs and unpredictable fiscal policies are shaking global capital markets, and cracks are beginning to show in this vast market as well.

At the core of private credit is direct lending. Instead of banks, private equity funds provide loans to mid-sized companies they have acquired, and in return demand higher interest rates than bank loans or high-yield corporate bonds. The term “private credit” covers dozens of strategies, but most are built on this basic structure.

Over the past decade of low rates and abundant liquidity, private credit delivered low default rates and high returns, cementing its place as a “must-have allocation” for institutions. Private equity firms acquired insurers to manage their fixed-income portfolios and began reaching individual investors through products such as ETFs and “evergreen funds,” which have no fixed maturity.

But the peak may have passed. Fitch Ratings notes that while private direct lending issuance hit a record high of $145 billion in 2024, up 79% from the previous year, credit metrics could deteriorate rapidly in 2025.

The problem is that no one knows exactly how opaque this market really is. In a paper published in 2024, Harvard professor Jared Ellias and Duke professor Elisabeth de Fontenay make the following point.

They go on to say:

Despite the opacity, we can still pick up partial signals from Business Development Companies (BDCs) that are listed on public markets. Recently, BDC share prices have been plunging.

Julian Klymochko, CEO of Accelerate, puts it this way.

He warned that immediately after President Trump announced the new tariff policy, BDCs were trading in the market at discounts of up to 30%.

On top of this, what worries investors most is the PIK (Payment-in-Kind) structure. This allows companies to pay interest not in cash but by taking on additional debt, which suggests that their liquidity may be stretched to the limit.

Suppose AWARE LAB Co., Ltd. raises 10 billion won at an interest rate of 15% with a four-year maturity. Instead of paying 15% interest in cash each year, the company borrows an additional amount equal to the interest. The total principal plus interest rises to 11.5 billion won at the end of year one, 13.2 billion won in year two, 15.2 billion won in year three, and 17.5 billion won in year four. From the company’s perspective, the advantage is that there is no cash outflow, while for the private credit fund, the benefit is the compounded return. Of course, companies that cannot afford to pay interest in cash often have no choice but to opt for PIK, which means the risk of default is that much higher.

According to Moody’s, some BDCs receive more than 10% of their total interest income in the form of PIK, and in the case of Blue Owl Technology, the share reached 25%.

In a recent report, the IMF noted that as of the end of 2023, more than 40% of private credit borrowers had negative net cash flow.

Jeff Diehl of Adams Street Partners puts it this way.

Observers point out that these structural risks have been building since 2022, when interest rates began to rise.

In an April 2024 outlook, Dan Pietrzak, KKR’s global head of private credit, said that “deal volumes will gradually recover,” but also warned that

The problem is that almost none of these risks are visible in the financial markets. Amanda Fischer, who served as chief of staff to former SEC Chair Gary Gensler, points out that

The concern is that this may not remain a simple market correction but could evolve into a systemic risk. According to the IMF, banks have already lent more than $500 billion to private credit funds, feeding into back-leverage structures.

There are also fears that this risk could grow under a Trump administration. Large banks have been exploring ways to enter the private credit market, but recent market turmoil has put many of those efforts on hold for now.

The Financial Stability Oversight Council (FSOC) under the U.S. Treasury issued the following warning in its annual report last year.

The role of insurers, in particular, is a growing concern. Fischer notes that

As of 2024, large US banks have extended about $214 billion in loans to private credit funds. Most of these loans use a structure known as back leverage: private credit funds make high-interest loans to portfolio companies, while banks provide funding to the funds on investment-grade terms. The funds, in turn, pledge their portfolios of corporate loans as collateral.

The deepest exposure belongs to JPMorgan. As of the end of 2024, its exposure to NBFIs (non-bank financial institutions) alone stands at $133 billion, equivalent to about 48% of its Tier 1 capital. This figure includes not only private credit but also loans linked to private equity funds. JPMorgan has effectively refused to provide the granular disclosures requested by US financial regulators, putting it on a collision course with supervisors.

Bank of America (BofA), Citigroup, and Wells Fargo each hold $5–6 billion of such loans, with exposures estimated at around 15–20% of their equity capital. Goldman Sachs and Morgan Stanley have smaller exposures, but they too are effectively propping up the leverage in the background.

On the surface, banks’ exposure to private credit funds looks stable. For large US banks, loans to private credit funds average around 10–20% of Tier 1 capital, and most of these loans are structured as senior, secured facilities. Private credit funds themselves are typically closed-end vehicles, with no redemptions allowed before maturity, which is seen as keeping liquidity risk low. Leverage within the funds is also, on average, relatively modest, so traditional risk metrics do not flag any major threats at first glance.

The problem is that much of this apparent stability rests on the assumption of a “calm market.” This structure has never been subjected to a true stress test. There has not yet been a full cycle in which private credit funds experience widespread distress, nor have we seen a sharp collapse in the value of the asset classes they hold as collateral. In other words, today’s structural safeguards are built on “static models” calibrated to historical data. Risks that have not yet materialized within the financial system are treated not as risks, but as assumptions.

An even bigger issue is information asymmetry. Lending by private credit funds is conducted privately, and even the banks cannot see the real-time risk profile of the funds’ portfolios. Most funds calculate net asset value (NAV) using their own internal models, which means that losses or value declines tend to be “parked” on the books rather than immediately reflected in market prices. Until a borrower actually defaults, problems can remain below the surface. This structure does not so much conceal risk as delay its recognition. In tranquil markets, that flexibility can be helpful, but in times of stress it becomes a factor that slows the response.

Most bank loans are structured against the funds’ total assets, but in practice the funds’ own equity may not be sufficient to absorb all losses. If, for example, the value of portfolio companies were to fall by more than 20% and recovery rates declined, the fund’s equity buffer could be wiped out very quickly. At that point, banks would move to seize collateral or demand additional collateral from the funds. The problem is that this market is highly illiquid. In a downturn, it is difficult to dispose of collateral, and because many funds hold similar assets, a wave of forced sales can trigger a chain reaction of valuation markdowns.

These risks are more dangerous not just because of the potential size of the losses, but because of their timing and visibility. By the time regulators or market participants recognize the problem, the fund’s NAV may already be meaningless and the liquidity of the collateral may have evaporated. The current private credit market is, in effect, a structure that relies on the empirical conclusion that “nothing has gone wrong so far.” We need to be alert to the possibility that this structure could suddenly start working in a completely different way.

As Dan Rasmussen puts it: