A sharp selloff in public funds that invest in private credit is fueling concerns that the booming $3.5 trillion market is facing a wave of defaults and investor withdrawals, with some analysts warning the fallout could spread through insurers and pension funds. The VanEck BDC Income ETF, a key tracker for publicly listed business development companies, has fallen 15 percent since the start of the year, reflecting mounting anxiety over the sector’s exposure to high-risk software companies and the potential for a spike in loan losses.
"You have this box where you have 100 companies, but you know that 10 of them are dead cats. Until you open the box, they are still alive. That's basically what they have created," Alberto Gallo, chief investment officer at Andromeda Capital Management, said in a recent interview with Reuters, describing the opacity of BDC portfolios.
The downturn follows a period of explosive growth, with the market for NAV loans—a popular form of fund-level financing—growing to an estimated $100 billion and projected to hit $600 billion by 2030, according to a Partners Group report. This rapid expansion has been met with a surge in redemption requests from investors this year at major firms including Blue Owl Capital, Ares Management, and Blackstone, forcing them to cap withdrawals. Publicly listed BDCs are now trading at an average discount of 20 percent to their net asset values, according to Reuters.
At stake is the stability of a market that has become a primary source of funding for mid-sized businesses. Steffen Meister, chair of Swiss private equity firm Partners Group, said last month that default rates in private credit could double over the next few years, driven largely by economic disruption from artificial intelligence that could render many software company business models obsolete.
A Crisis of Confidence
The pressure on BDCs stems from a confluence of factors hitting at once. After years of strong performance, returns are beginning to shrink just as competition intensifies. The primary driver of recent fear, however, is the sector's heavy concentration in software and tech services firms, many of which are now seen as vulnerable to disruption from generative AI. "We are still at the beginning of discovering the issues and it might not happen tomorrow, it might happen in three months or six months," Gallo said.
This has led to a crisis of confidence among investors who are increasingly demanding their money back. The wave of redemption requests has forced some of the largest players to enforce withdrawal limits, a feature designed to prevent a disorderly fire sale of assets but one that has amplified investor concerns.
"You're going to have credit cycles, you're going to have losses, you're going to have some markdowns. I mean, they're not lending at 5 percent for a reason, right?" said John Giordano, managing director at Seaport Global Holdings, suggesting that a recalibration was inevitable.
Insurers and the New Contagion Channel
While some analysts see the current stress as a contained cyclical downturn, others are pointing to a more systemic risk with a contagion channel that differs from the 2008 financial crisis. The concern centers on U.S. life and annuity insurers, whose holdings of private credit have more than doubled over the past decade.
According to a note from Oxford Economics, private credit now accounts for around 35 percent of total U.S. insurer investments. Javier Corominas, the firm's director of global macro strategy, warned that should private credit losses erode insurer solvency, the contagion would not be a sudden bank run but a "slow, grinding erosion of retirement security — harder to detect in real time, and significantly more difficult to reverse."
This creates a different kind of systemic threat than the bank-led crisis of 2008. The exposure is concentrated in pension funds and retail savings products, with the valuation of the underlying assets remaining largely opaque. "Regulators always fight the last crisis, and here you have the opposite, the mirror image of the last crisis," said Andromeda's Gallo.
This article is for informational purposes only and does not constitute investment advice.
