Private Credit

A private credit deal begins with a bilateral or small-club negotiation between the lender and the borrower, usually a private-equity-owned company. Pricing is quoted as a spread over a floating reference rate, most often SOFR, frequently with a rate floor that protects income if benchmarks fall. Lenders add economics through an upfront or original issue discount, commitment fees on undrawn revolvers, amendment fees when terms are renegotiated, and sometimes call protection in early years. Part of the coupon may accrue rather than pay cash, in payment-in-kind form.

The all-in yield is therefore built up in words as follows: the reference rate (or its floor, whichever binds), plus the contractual spread, plus fees amortised over the expected life, less expected credit losses. Because the coupon resets, interest-rate duration is short while credit duration matches the loan's maturity.

Private credit expanded because post-crisis capital rules made it costly for banks to hold leveraged loans on balance sheet, while private equity's growth created steady demand for acquisition debt. Direct lenders offer certainty of execution, confidentiality and speed: a single fund or small group can underwrite the whole facility without syndication risk, which is decisive when public loan and high-yield markets are volatile.

The characteristic instrument is the unitranche, a single facility that blends what would otherwise be first-lien and second-lien tranches into one blended-spread loan, sometimes split privately between lenders through an agreement among lenders. Adjacent strategies include mezzanine, asset-based and specialty finance, distressed and opportunistic credit, and venture lending. Capital is deployed through closed-end drawdown funds, business development companies and, increasingly, evergreen semi-liquid vehicles.

Because loans do not trade, carrying values are fair value estimates: discounted cash flows using a market-implied spread, benchmarked against comparable syndicated loans and any observed transactions. This makes reported volatility and correlations look lower than the underlying economics, so smoothing and stale pricing should be assumed when reading a track record.

Returns are dominated by contractual income rather than capital appreciation, which mutes the J-curve relative to buyout funds. Fund-level leverage, subscription lines and PIK accrual all flatter headline internal rates of return, so a candidate should separate cash yield from accrued and financed components. Key risks are default and recovery on single-name concentrated exposures, covenant erosion, borrower sensitivity to rising base rates, and lender illiquidity through long lock-ups and unfunded capital commitments.

At Level I, place private credit within the alternative investments taxonomy as a distinct category alongside private equity, real assets and hedge funds, and describe its vehicles: closed-end limited partnerships with a commitment, drawdown and harvest cycle, plus listed and non-listed business development companies. Be able to explain management fees on invested or committed capital, incentive fees on income and gains, and the role of hurdle rates and catch-up provisions.

Expect qualitative comparisons: floating versus fixed coupon, negotiated bilateral documentation versus indentures and public disclosure, mark-to-model versus quoted prices, and illiquidity premium versus liquid credit spreads. You should also identify the diligence questions an allocator asks: sourcing advantage, sector concentration, leverage, workout capability and alignment of the general partner.