New York District Attorney Jay Clayton is directing his team to investigate inconsistencies in how private credit funds value their assets.
Clayton explained that the difference between asset valuations across balance sheets was at the heart of bankruptcies such as 777 Partners, Tricolor Holdings and First Brands Group, Bloomberg reported.
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"Where you look is when you have a market where there's a bunch of participants and a large portion of them have it marked at say 75 and one or two have it marked at 95. That's a place where you say, okay, I need to ask some questions about the folks who are marking it at 95, particularly if they're making fees off it. To be clear, I'm asking my people to look at that question across the marketplace," Clayton said during the Bloomberg Global Credit Forum.
The U.S. Securities and Exchange Commission previously flagged private funds as an area the agency is watching closely amid turmoil in the private credit space.
Chair Paul Atkins also noted the SEC is investigating alleged fraud in the private credit sector. Atkins did not identify which specific firms are under investigation, but noted that the SEC, U.S. Department of the Treasury, and the Federal Reserve are all monitoring the private credit space.
"We are taking it seriously, we are monitoring the situation. There's been allegations of fraud, and obviously, I can't talk about any specific cases, but we are investigating that as well," Atkins said previously.
Clayton also pushed back on concerns surrounding private credit, saying fears were overblown and that the sector has actually supported the U.S. economy. He also said he does not see a clear pathway for stress in private credit to spread into the wider financial system.
U.S. Attorney Digs Deeper
Last month, it was reported by Fortune that the Manhattan U.S. Attorney’s office has been looking into the valuation practices at BlackRock TCP Capital Corp., a publicly traded business development company.
Clayton made comments in November, citing his similar concerns about the value of private assets, saying "people should know that the financial regulators and the department are looking at those," Fortune noted.
The private credit industry has been under immense pressure lately as investors continue to scrutinize valuations and the resilience of borrowers facing technology-driven change.
Risks For Markets and Clients
JPMorgan CEO Jamie Dimon cautioned periods of calm in credit markets often mask the buildup of risk, warning that performance typically deteriorates more than expected once the credit cycle turns.
“I do think when we have a credit cycle, because there have been weakening standards in underwriting and transparency and marking, I do think you’ll see credit perform worse than people expect. That’s all. I don’t think it’s systemic,” he said during the Reagan National Economic Forum.
Meanwhile, Apollo Global Management (NYSE:APO) expects its wealthy clients to seek cash back from private credit products after months of net outflows.
Jim Zelter, a president at the firm, told attendees at Bernstein’s Strategic Decisions Conference in New York that withdrawals earlier in the year exceeded new contributions in a category of vehicles marketed largely to individual investors that make loans to middle-market companies.
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