Private credit – are there more cockroaches?

 

One of the topics discussed recently by G7 finance ministers besides the war in the Gulf was the private credit sector, or as it is alternatively known – Shadow Banking. Two high-profile bankruptcies late last year in America – First Brands and Tricolor – suddenly rang alarm bells about the health of the private credit sector.

The Tricolor collapse prompted the CEO of JP Morgan, Jamie Dimon, to say, ‘when you see one cockroach, there are probably more.’

Private credit offers an alternative source of funding for companies to bank lending.  Private credit, as the name suggests, is a loan but not one made by a bank but by an investment fund. Specialised managers raise funds from pension funds and insurers pool them into credit funds and lend directly to companies. These pay floating interest and then repay the loan principal at the end of the term. Typically, private credit has been provided to smaller companies and especially those considered ‘high yield’ or ‘junk’ status because of low profitability or high debt. For the investors of the credit funds, the main attraction is that it has provided higher yields, albeit at a higher risk.

Despite the risk involved, private credit has been a force for good, providing growth capital that otherwise would be inaccessible for some companies. The Bank of International Settlements reports that over $200bn of private credit loans have already been provided to fund AI-related investment and estimates that this could grow to between $300bn and $600bn by 2030.

So why are G7 finance ministers concerned?

Well, the private credit market has rapidly grown to $3.5 trillion globally of which the US accounts for about $2 trillion. Furthermore, the private credit sector is opaque from a regulatory point of view. When banks provide loans to companies, regulators see these on balance sheets and require capital to be provided against them. Private credit, by comparison, is distributed by investors and does not show up on any single balance sheet that is stress-tested by regulators. When the auto supply parts business First Brands collapsed in the US last year, it did so with estimated liabilities of between $10bn and $15bn.

Investors have been spooked and have since withdrawn billions, pulling more than $10bn from some of the largest private credit funds in the first quarter, reminiscent of the early days of the 2008 financial crisis.

Unfortunately, it isn’t usually until after a financial crisis that markets and regulators realise just how interconnected the different parts of the financial system tend to be. Central bankers, regulators and investors will be hoping that the First Brands and Tricolor collapses were one-offs as the private credit sector looks too big to fail.

Let’s hope there are no more cockroaches crawling around out there!

 

What have we been watching?

 

US equities surged to new highs, posting a sixth consecutive weekly advance driven by strong earnings in AI businesses, particularly AI chipmakers. The US ‘hyperscalers’ continue to increase AI-related investment, with the AI ‘arms race’ now reaching fever pitch. The scale of the capital investment is breathtaking. For example, Alphabet is doubling its capital investment from $91bn last year to $180bn-$190bn in 2026. While this level of spending can be justified by huge backlogs in revenue – Alphabet has indicated a $460bn backlog – the return on capital from this investment is still to be determined!

The market mood was also helped by the news that the US and Iran were close to agreeing a one-page memorandum that would end the Gulf War and set the framework for more detailed nuclear negotiations.

However, earlier this morning there were reports of further explosions in the Strait of Hormuz, with America’s military Central Command saying that ‘US forces intercepted unprovoked Iranian attacks and responded with self-defence strikes.’ Meanwhile, President Trump has posted that ‘I have just read the response from Iran’s so-called representatives’, which he went on to call ‘TOTALLY UNACCEPTABLE.’  American media reports suggest Iran has offered to transfer some of its highly enriched uranium to another country but wouldn’t dismantle its nuclear facilities. Iran’s official news agency has denied the report. Israeli PM Benjamin Netanyahu said, ‘the war is not over’ and is still seeking to end Tehran’s nuclear ambitions.

While the Strait of Hormuz remains closed, markets remain on a knife-edge. Trump clearly wants a deal with the mid-term elections looming, but what about Israel? Meanwhile, uncertainty remains about who holds negotiating authority in Iran, which may be complicating progress and delaying a resolution. Focus may now shift to the meeting later this week between President Trump and Xi Jinping in Beijing. Both leaders will no doubt wish to show their influence on the world stage, so it will be interesting to see how this plays out in potential peace talks with Iran. Betting sites currently indicate a 50% chance of the Strait of Hormuz re-opening by the end of June.

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Brent oil, which fell below $97 at one point last week on news of the one-page peace memorandum, has jumped this morning by 3% to over $104.       

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In the UK, PM Sir Keir Starmer is under tremendous pressure following the very poor local election results on Thursday. There is talk of a leadership challenge as soon as today. However, many left-wing Labour MPs may be wary of such a development this soon, as their preferred candidate, Andy Burnham, is not currently an MP. They fear a contest right now might allow a more moderate candidate such as Wes Streeting to prevail. Will timing prolong Starmer’s reign?  

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In the US, AI chipmakers and hyperscaler results together with developments in the Gulf, have tended to overshadow economic news. Inflation expectations have edged upwards with the New York Federal Reserve (Fed) increasing the one-year outlook to over 3.6%. This has raised expectations of a more ‘hawkish’ response from the Fed, particularly given the latest strong US jobs data. We must also not forget Trump’s tariff policy. The 10% global tariff put in place following the US Supreme Court ruling against Trump’s IEEPA tariffs, has been found to be unlawful by the US Court of International Trade. Meanwhile, Trump has set a deadline of the 4^th July for the EU to ‘deliver their side of the deal’ or tariffs would be raised.       

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Finally, hard times ahead due to Trump’s Gulf War? The world’s leading condom manufacturer Malaysian-based Karex, produces 5 billion condoms annually and is a supplier to leading brands such as Durex and Trojan as well as to the NHS. It is now raising prices by between 20% and 30% due to higher raw material and freight costs.

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Alpha Portfolio Management is a trading name of R C Brown Investment Management PLC which is authorised and regulated by the Financial Conduct Authority.