Investors are Waking Up to the Private Credit Crisis...
Steve Eisman, famous for predicting the 2008 financial crisis, is warning about risks in the private credit market due to overexposure to software companies threatened by AI disruption. Private credit funds have been found to be misrepresenting their software exposure, and investors are already trying to exit en masse. While serious losses are likely, the risk appears smaller than the GFC due to significantly lower leverage ratios.
Summary
The video breaks down Steve Eisman's concerns about the private credit market and its potential vulnerabilities. Private credit refers to lending that occurs outside the traditional banking system, where non-bank lenders like Blackstone, Apollo, KKR, Ares, and Carlyle provide loans to companies — often smaller, more leveraged, or riskier businesses — in exchange for higher interest rates. This market grew significantly after post-2008 banking regulations restricted traditional banks from making riskier loans, effectively shifting that risk into a less transparent, private space.
A central problem identified is the 'SASpocalypse' — a broad sell-off across the software-as-a-service industry driven by fears that AI will either erode revenue growth or render many software products obsolete. Private credit funds lent heavily to software companies during the 2018–2022 buyout boom, with estimates suggesting roughly 25% of direct lending loans are to software companies. Investigative reporting by the Wall Street Journal revealed that major private credit funds — including Blue Owl, Blackstone, Ares, and Apollo — had been underreporting their software exposure, classifying software companies under other sectors like healthcare to make the data appear less alarming.
This revelation has triggered a wave of investor redemptions that are exceeding the quarterly caps set by these funds. Examples include Blackstone's BCRED receiving a 7.9% redemption notice against a 5% cap, Cliffwater's fund receiving a 14% notice against a 7% cap, and similar situations at Morgan Stanley and BlackRock. This illiquidity trap is particularly problematic for retail investors who were enticed into private credit with promises of attractive yields.
Despite these warning signs, Eisman and the video's host conclude that while private credit will likely suffer significant losses — especially if AI disrupts cash flows at smaller software companies forcing refinancing at higher rates — this is unlikely to cause a systemic, GFC-level crisis. The key reason is leverage: private credit funds (particularly BDCs) are levered roughly 2-to-1, compared to major banks during the GFC which were effectively levered 40-to-1 when off-balance-sheet exposure was included. Banks do have exposure to private credit through lending, but the lower leverage ratio limits the contagion risk to the broader financial system.
Key Insights
- Steve Eisman argues that an entire generation of private credit executives have mistaken the absence of a credit cycle for personal genius, and when private credit eventually blows up it will shock executives just as the GFC shocked Wall Street.
- Wall Street Journal investigation found that major private credit funds — Blue Owl, Blackstone, Ares, and Apollo — were underreporting software exposure by classifying software companies under other sectors like healthcare; Blue Owl reported only half its actual software exposure.
- Apollo executive John Zito acknowledged concern about the 2018–2022 software buyouts, stating the companies acquired during that period are lower quality, smaller, and were bought at much higher valuations than today's public software companies.
- Eisman argues the private credit situation differs fundamentally from the GFC because private credit funds (BDCs) are levered approximately 2-to-1, whereas major banks during the GFC were effectively levered 40-to-1 when off-balance-sheet items were included.
- Post-2008 banking regulations did not eliminate risky lending — they merely added an intermediary step, with major banks now lending to private credit funds who then lend to risky companies, keeping bank exposure intact but less visible.
Topics
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