Sponsored corporate lending mostly involves private equity-sponsored companies, offering exposure to robust businesses with substantial equity backing. Specialty lending broadens this exposure by including exposure to distressed assets, heavily structured loans on high quality collateral, and companies undergoing significant transitions.
What Is Private Credit?
Understanding the basics and beyond
With a robust supply of asset-based investments, the private credit market has grown to over $5T dollars and is anticipated to be worth nearly $8T by 2027, driven by structural shifts in the lending environment.
What is private credit?
Private credit refers to lending to borrowers who do not have access to traditional liquid markets or bank financing. It includes general corporate loans, secured by a company's assets or cash flow, and asset-based loans, secured by specific tangible or intangible assets such as equipment or financial securities.
Why is it necessary?
Reason #1
Support for small and medium-sized businesses: Most businesses globally are small or medium-sized and require smaller loan amounts than those typically available in liquid markets. Private credit provides these essential loans.
Reason #2
Filling the bank lending gap: Post-financial crisis regulations have restricted banks from lending to highly leveraged businesses. Private credit fills this void, especially for privately- or family-owned businesses.
Reason #3
Diversified financing needs: Different businesses have varying financial needs, some requiring specific asset-based loans. Private credit caters to these diverse requirements more flexibily than traditional banks or liquid markets.
By addressing these needs, private credit ensures businesses have access to the necessary capital to operate, grow, and sustain their activities, thereby supporting broader economic stability and growth.
Corporate and specialty lending
This growth is supported by the attractiveness of the opportunities to investors. Private credit provides the potential for substantial and differentiated returns; access to broader opportunities and greater diversification backed by hard assets, contractual revenues and defensiveness on the downside.
We see two key areas for investors that provide unique benefits to a broader portfolio:
Each of these areas comes with their own set of opportunities, risks and complexities that you can explore below. A fund-of-funds approach provides investors with better access and control to reap the benefits of private credit while maintaining a diverse portfolio to optimize risk-adjusted returns, capitalizing on various market conditions, and enhancing overall portfolio resilience.
How do private credit funds make money?
Coupon:
Typically, the Secured Overnight Financing Rate (SOFR) +5-7% on senior debt (~11% in today’s marker), SOFR +8-10% on second lien
Fees:
Origination fee typically ~3% on each deal or refinance, prepayment fees of 1-2% in the first 1-3 years, ad hoc fees for covenant amendments
PIK interest:
Pay-in-kind interest conserves cash for the borrower while increasing back-end returns for the fund
Equity kickers:
Often in the form of penny warrants that grant convertible bond like upside to the deal
Securitisation:
Pooling of loans and selling top tranches to retain excess interest
Explore the following scenarios to see how coupon, fees, PIK, equity, and securitization contribute to the gross IRR.
Source: Russell Investments. Data accurate as of 29 April 2025
Private Credit Factors
In corporate lending, direct lending managers can adjust terms and conditions to fit market needs. Special situations manager can even pivot to liquid markets when those are more attractive. Specialty lending managers exploit persistent market shortcomings by offering bespoke lending solutions that can be more recession resistant. This flexibility helps ensure that the portfolio can adapt depending on the position of the economic cycle.
Applying leverage in corporate lending, particularly in direct lending in the U.S., can amplify returns while maintaining manageable risk levels. Specialty lending often involves sophisticated financial structures, such as PIK deals, which allow for additional compounding interest and returns over time. Special situations managers can even negotiate cheaply priced warrants for equity upside to turn some private loans into an investment that looks very much like a high coupon convertible bond.
In corporate lending, direct lending offers stability and predictable cash flows. In contrast, specialty lending can offer higher returns but comes with increased complexity, necessitating a balanced approach.
Any opinion expressed is that of Russell Investments, is not a statement of fact, is subject to change and does not constitute investment advice.
The value of investments and the income from them can fall as well as rise and is not guaranteed. You may not get back the amount originally invested.
Any forecast, projection or target is indicative only and not guaranteed in any way.
Private Credit is considered a high-risk investment. Investing in a private credit involves considerable risks, you should make sure you understand the risks before investing.
Private Credit debt instruments are subject to the risk that a borrower will default on the payment of principal, interest or other amounts owed. The financial strength and solvency of the issuer, including the lack or inadequacy of any collateral securing repayment affect credit risk.
In general, rising interest rates in the market will negatively affect the price of the debt instruments. Sensitivity to a change in interest rates is more pronounced and less predictable in instruments with uncertain payment (or prepayment) schedules.
Investments in private credit should be regarded as illiquid. Private credit is not listed on an exchange, traded in the secondary market and are generally not transferable.