Companies that loaded up on private credit are cratering as public credit markets look unconcerned

The massive growth of private credit as an asset class was in large part a response to the financial crisis.

Regulators wanted to de-risk banks, but, as the old adage goes, risk cannot be created or destroyed, only transferred — and in this case, it was major asset managers who stepped in to fill the void by originating and holding more loans themselves.

This debt, unlike public credit, typically has a floating rate (that is, its changes track those of the Federal Reserve’s policy rate), and as the “private” suggests, is not traded on public markets, so we’re not getting frequent updates on how the perceived riskiness of these obligations is evolving.

One way to observe how markets are feeling about private credit as an asset class is to look at how the stocks of companies who hold all this private debt are doing.

Apollo Global Management, Blackstone, KKR & Co., and Ares Management developed into leaders of the space, with the most assets under management in private debt heading into this year, per S&P Global.

Their stocks have gotten absolutely demolished over the past month, far underperforming the broad US market and losing nearly a quarter of their value. High-yield spreads have certainly moved higher, too, as the economic data and outlook dim, but nowhere near levels that match the carnage in these stocks.

If investors are worried about the potential for souring private debt, it stands to reason that this concern would be manifest in publicly traded instruments that get daily marks. So far, that’s not really the case.

“There’s a disconnect between the extreme weakness in private credit stocks and publicly traded corporate credit spreads, which remain mostly unconcerned by the stock market sell-off,” Conor Sen, founder of Peachtree Creek Investments, said.

So, either the performance of these stocks is a leading indicator that there’s much more incipient economic weakness than meets the eye (and spreads on publicly traded credit are poised to widen materially), or the sharp downturns in these names are another case of the stock market drop overstating the degree of economic angst in what has primarily been a momentum-driven downdraft.

It also probably doesn’t help that these firms are also big players in the private equity space, and softening stock markets are denting the outlook for these companies to enjoy “exit liquidity” in the form of M&A or spinning off those holdings in initial public offerings.