Private credit remains a "compelling asset class," despite recent headlines, Fidelity Investments said in its most recent private credit market update.

Over the past 16 years, private credit has exploded to roughly $1.8 trillion. After the global financial crisis of the late 2000s, tighter banking regulations and tricky economic conditions pushed banks away from traditional corporate lending.

• JPMorgan Chase shares are showing limited movement. Where is JPM stock headed?

That gap created a huge opportunity for asset managers, turning private credit into a major funding source for companies and a hot, emerging asset class for both institutional and individual investors.

Is This The Beginning Of A Lending Shift?

Recently, banks and asset managers have issued warnings or restricted lending in their private credit portfolios during ripples in the market.

JPMorgan Chase & Co. (NYSE:JPM) has started restricting lending to loans associated with software companies in its private credit funds, while Morgan Stanley (NYSE:MS) curbed redemptions after investors sought to withdraw nearly 11% of shares from its North Haven Private Income Fund.

BlackRock Inc (NYSE:BLK)  limited withdrawals from its $26 billion HPS Corporate Lending Fund after redemption requests surged to 9.3% of the fund’s net asset value and Cliffwater's investor redemption requests from its $33 billion private credit flagship fund exceeded 7%, Bloomberg reported.

Fidelity explained that gating a fund exists for a reason. Private credit portfolios are built around loans intended to be held for multiple years, and selling assets prematurely to meet short-term liquidity needs would ultimately harm long-term investors.

"References to gates may overstate the situation — what occurred was largely the structure functioning as designed. Given the nature of these private BDCs — which primarily cater to institutional investors — the episode is best viewed as orderly management of a closed-end structure, not as an indicator of broader stress in the private credit market," Fidelity said.

Software Company Valuation

The valuation of software companies in private credit portfolios has also become another area of investor focus.

Software equities saw a sharp drawdown this year, declining approximately 20% from the start of the year through Feb. 5, the MSCI stated. Valuations are resetting amid concerns that artificial intelligence will erode the sector’s relevance. 

Some of the top private equity CEOs have addressed what many call the “SaaS apocalypse” as investors express concerns about the stock slump.

David Gaito, head of Fidelity Direct Lending, acknowledges that the speed of the sell-off in software stocks has been notable, even by the standards of historically volatile technology markets, "But I don't think the software industry is disappearing, and several areas of software appear particularly resilient," Gaito says. "Moreover, the current reset in software may ultimately create a healthier lending environment than what has prevailed in periods where assets were overvalued and financed with aggressive leverage." 

Private Credit’s Resilience During Market Turmoil

Investors should recognize that "private credit is a long-term illiquid strategy with inherent risk. While short-term disruptions can be cause for some concern, they are not necessarily indicative of larger, more structural problems with the asset class. The situations described in the headlines appear to be isolated and idiosyncratic," Fidelity stated.

As a credit portfolio matures, it's normal for certain companies to encounter challenges.

Unlike liquid credit managers, who can quickly adjust their positions, private credit managers must rely on their workout strategies to navigate difficulties and chart a path to recovery.

The private credit sector is moving towards an inflection point. Portfolios with a more robust underwriting process, clear valuation policies and liquidity management will have a greater advantage, Fidelity stated.

Photo: Piotr Swat via Shutterstock