Soaring to $3 trillion: U.S. private credit is evolving into a "high-risk version" of the public debt market, with aggressive underwriting raising bubble concerns

As the asset scale of the U.S. private credit industry skyrockets to $3 trillion, this market is increasingly evolving from a niche financing channel into a "high-risk version" of the public debt market with a massive scale and complex structure.

According to data from Morgan Stanley, the size of the private credit industry has grown from $2 trillion in 2020 to approximately $3 trillion by early 2025, and it is expected to reach $5 trillion by 2029. Although this size still represents only a small portion of the overall bond market, JPMorgan Chase points out that its scale is now comparable to that of the public high-yield bond market. Private credit is no longer limited to providing loans to mid-sized enterprises; with the expansion of transaction sizes and types of collateral, large asset allocators are viewing it as a mainstream investment option on par with high-yield bonds and leveraged loans.

This shift is reshaping the corporate financing landscape. The boundary between Direct Lending and Broadly Syndicated Loans is rapidly dissolving. Currently, the average transaction size in the private market has normalized to the billion-dollar level, meaning that large corporations can seamlessly switch between the public and private markets to seek equivalent funding.

However, this rapid expansion is accompanied by significant risk signals. As more capital chases limited transaction opportunities, aggressive underwriting behavior is emerging, and the risk of "winner's curse" is rising. Some investors warn that the private credit market is introducing volatility from the public market without providing corresponding liquidity, and the relaxation of underwriting standards under massive capital inflows may lead to increased default risks, potentially evolving into a source of systemic financial pressure during future economic downturns.

Boundary Dissolution: Comprehensive Convergence of Public and Private Markets

The boundaries between private credit and its publicly traded counterparts are becoming increasingly blurred.

Emily Bannister, a credit portfolio manager at Wellington Management, points out that the market is showcasing a "private credit counterpart" for every segment of the public fixed income space. This means that almost every type of debt that can be found in the public debt market—from investment-grade loans, high-yield debt to asset-backed financing, infrastructure, and real estate credit—can now be found in the private market with corresponding products.

This integration is particularly evident in areas such as commercial real estate and data centers, where financing solutions often blend banks, Commercial Mortgage-Backed Securities (CMBS), Real Estate Investment Trusts (REITs), and private credit.

Danielle Poli, a managing director at Oaktree Capital Management, believes that the most obvious convergence is occurring between direct loans provided by private institutions and syndicated loans offered by traditional banks. As the terms and pricing of the two converge, it also confirms that the two markets are forming a symbiotic relationship through mutual penetration.

Scale Leap: Yield Chasing and Financing Alternatives

The convergence trend is driven not only by the evolution of market structure but also by the combined effects of multiple forces: banks withdrawing from specific types of loan businesses, an increased demand from borrowers for customized capital, and investors' urgent pursuit of high yields and diversification.

Christopher Acito, CEO of Gapstow Capital Partners, analyzes that this integration has largely been accelerated by investors seeking high yields during the period from 2020 to 2021 when public interest rates were close to zero, which allowed private credit managers to accumulate massive pools of capital.

Particularly in 2022, in response to the Federal Reserve's aggressive interest rate hikes, the public debt market was temporarily frozen, and private lending institutions quickly filled this gap. As investors chased higher returns, the scale of private lending institutions rapidly expanded, breaking through the limitations of the traditional mid-market.

Acito pointed out that the average transaction size, which was once $75 million, has rapidly expanded to hundreds of millions of dollars, with even billions of dollars in transactions becoming commonplace, making the public and private markets effectively substitutes for each other in terms of financing capacity.

Bubble Concerns: Aggressive Underwriting and Credit Risk

The "publicization" of this market has raised concerns about credit quality. As more private lending institutions compete for a limited number of large transactions, competition is forcing underwriting standards to align with the more lenient norms of the pre-2020 syndicate market.

Emily Bannister warns that one implication of this integration is that increased competition in certain areas of the market may lead to more aggressive underwriting and weakened covenant protections, thereby impacting overall credit conditions. This poses a critical risk for mid-sized companies with high leverage that may struggle to repay once growth slows or financing costs rise.

The recent default incident involving First Brands highlights the reality of this risk. The auto parts manufacturer defaulted on over $1.5 billion in private loans after a sudden liquidity crisis, catching lenders off guard. This case exposed the vulnerability of the market when underwriting standards are aggressive and private lending institutions lack sufficient visibility into deteriorating fundamentals.

Expert Poli from Oaktree warns that in the context of intensified competition, managers may become embroiled in a scramble for deal flow, thereby accepting credit risks without corresponding returns.

Structural Vulnerabilities: Liquidity Dilemma and Concentration Risk

In addition to credit risk, structural issues cannot be overlooked.

Putri Pascualy from Man Group points out that due to the limited number of large transaction targets, private credit investors face the risk of inadvertently having double exposure to the same large borrower, and investors may not achieve the expected diversification but instead are doubling or even tripling down on specific names.

Moreover, liquidity mismatch remains a core concern. Although private credit is becoming as large as the public debt market, its lack of a true secondary market means that investors may find it difficult to quickly sell positions when needed. While some new liquidity tools have emerged in the market, Pascualy believes it is still difficult to determine whether these solutions can provide substantial liquidity The regulatory report has also highlighted relevant risks, pointing out that non-bank lending institutions operating under high leverage and relatively opaque structures may amplify systemic pressure during future economic downturns. Industry experts warn that if lending standards continue to loosen driven by capital allocation, the explosive growth of this market could evolve into a new financial bubble