Companies receiving private credit loans are showing growing signs of financial stress, raising concerns that banks could ultimately face losses.
According to a new report from the International Monetary Fund (IMF):
- Over 40% of private credit borrowers had negative free cash flow at the end of 2024, compared to about 25% at the end of 2021.
- This cash flow weakness leaves borrowers more vulnerable to defaults, especially amid fears of economic stagnation fueled by trade wars.
Despite the mounting risks, the IMF notes that current accounting valuations have yet to reflect the deterioration in credit quality. The rise of dividend recapitalizations — where companies borrow more to pay dividends — is further straining debt sustainability.
The stakes are high:
- Banks now have more than $500 billion of exposure to the $1.6 trillion private credit market.
- Industries like healthcare and software are particularly vulnerable, with many borrowers relying on risky structures like payment-in-kind (PIK) notes, which allow companies to defer interest payments.
Private credit typically serves smaller and weaker firms, making the sector more exposed to economic downturns.
Regulators are closely monitoring these vulnerabilities, with the Financial Stability Board set to release new policy recommendations in July to help contain risks from the shadow banking system.
Still, some experts suggest that where lending was sensible and proportionate, borrowers may be able to weather the storm with the support of their lenders.