Trouble has been brewing in private credit for quite a while, but lenders and investors have been reluctant to write anything down, resorting to all kinds of "extend and pretend" games to avoid write-downs.[a]
tick-tock, tick-tock, tick-tock...
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tick-tock, tick-tock, tick-tock...
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Private equity (PE) is increasingly being introduced into 401(k) plans, driven by a 2025 executive order encouraging "democratization" of alternative assets. - Google AI
Think pre-IPO buy-in. Investors in the know and other well connected institutional investors get first dibs on all of the good ones. The bad ones are pawned off to retail investors. It's no different with private credit and private equity. These sorts of deals have good ones and bad ones - the good ones will have been taken by the time it flows down to retail.
There's a great chart out there somewhere (I couldn't find it) which breaks down the impact of private equity on the availability of such opportunities in public markets. It showed a dozen or so companies (like Google, Apple, Uber, Stripe, etc) and broke down their market cap gains into two parts, "pre IPO" and "post IPO" gains. Of course, the pre-IPO gains were only available to private equity (or, at best, accredited investors), whereas the post-IPO gains were available to retail traders as well.
"Older" companies like GOOG & AAPL were much more likely to have experienced that vast majority of gains after their IPOs, meaning retail investors could have made big money by betting on them early. Meanwhile newer companies (like Facebook, Uber, Stripe, etc) were much more likely to have yielded the vast majority of their gains before their IPOs, meaning retail investors didn't have the opportunity to benefit from big returns.
I suspect that the reason those "newer" companies were able to have the majority of their gains reaped pre-IPO was that during that time period, it was easy to acquire capital from investors without resorting to public market IPOs, where as the era of google and apple have not got the same level of private investment.
And i think it has to do with low interest rates. During the google early years, it is difficult to obtain low-cost loans (for private investors that is). Therefore, public markets look like an easier path for companies to raise money.
The "newer" companies in your list are mostly post-GFC, during a period of ultra-low interest rate. This makes money easy for private investors to obtain, and so companies have an easier time getting funding from those private sources. The IPO is realistically not a funding mechanism, but an exit mechanism for those early private investors.
If you're familiar with Ray Kurzweil's work, I wonder whether this phenomenon might be related. Kurzweil notes that better technology begets better technology in a self-reinforcing and ever-accelerating cycle of technological advancement. His thesis implies rapidly evolving capital requirements. Massive amounts of nimble private capital, secure in the hands of highly competent people with relevant domain expertise, may well be an important precondition for continual acceleration.
Thanks for the reminder! I need to switch my plan away from a TDF to avoid this.
I say this to say... who knows? I guess if you shuffle deck chairs fast enough everything works out fine (?)
If you have unlimited capital and time horizon, because you're a nation with the power to tax and print money, then you can keep this game going for a long time.
The only thing that mandates it stops are if (a) too many of your loans are correlated with the same thing that crashes (e.g. energy, tulips, AI, etc) or (b) too many of your loans are tied together in a single entity (either because it combined multiple smaller entities or because it tied itself into all their financial arrangements).
So unlike money-market funds, these private-credit funds can gate withdrawals and extend and pretend by turning cash coupons into PIKs. So I don't actually see credit concerns directly driving liquidity issues for the banks that didn't hold the risk on their balance sheet glares Germanically.
Instead, I think the contagion risk is psychological. Which is an unsatisfying answer. But if there are massive losses on e.g. DBIP and DB USA halts withdrawals, then the 2% stock loss Morgan Stanley suffered when it capped withdrawals [1] could become a bigger issue.
[1] https://www.wsj.com/livecoverage/stock-market-today-dow-sp-5...
Or never invoked. It's a safety feature for the fund and, arguably, systemic stability.
People eventually want to spend their money.
What is the risk, probability of actualizing the risk, and the outcome of actualized risk?
The ticktock ticktock routine reads like baseless fearmongering to me.
For example, take First Brands, a multi-billion-dollar company which filed for bankruptcy last year. First Brands had pledged the same assets as collateral for loans from multiple private-credit funds. Those loans were being carried at a fantasy NAV of 100 cents per dollar, until suddenly they were not. Did none of these lenders submit UCC filings so other lenders could check which assets had already been pledged as collateral? Did none of these lenders ever check to see which assets had already been pledged? Did all these lenders make loans based on blind trust?
Failing to check and verify that assets have not been pledged as collateral to other lenders is an amateur mistake. It's reckless, really. The equivalent in home-mortgage lending would for a mortgage lender never even bothering to check that a homeowner isn't getting multiple first-lien mortgages simultaneously on the same home, then forgetting to put the first lien on the property title.
My take is that for many private credit funds, NAVs are basically fantasy.
I resorted to the mortgage-lending analogy so others could quickly grok what multi-pledging means.
Oh boy, if this is the case, oh boy.
Lessons not learned indeed.
The lesson isn’t being ignored- it’s being used as justification.