Britain’s biggest banks are trying to grab a slice of the rapidly expanding private credit market, but as they look to grow, memories of the financial crisis are coming back to haunt the lenders.
The global private credit market notched $2 trillion (£1.5 trillion) assets under management in 2024 and is expected to grow to $2.8 trillion by 2028.
UK private credit funds raised £15.2bn in 2024 – a 14 per cent increase year on year.
The rapid expansion of the market came as private credit filled in the void left behind by lenders in the wake of the financial crisis. From 2015 to 2022 the market ballooned to $1.4tn from $400bn.
The market was able to fill a significant funding gap following post-crisis legislation, which limited banks’ ability to lend to certain unregulated or opaque markets.
Now, as Britain’s big banks turn their attention back to a blurry market, regulators have started to raise the alarm.
Simon Hart, partner and financial services lead at RPC, said the private credit market is “more opaque than vanilla bank lending – and whenever something’s a bit opaque, everybody’s nervous about it”.
Lending in foggy areas is what landed banks in hot water in 2008 with the likes of collateralised Debt Obligations (CDOs) – a financial product sliced into different portions of risk – often leaving investors with no idea what level of risk they were holding.
This lack of transparency sent waves of distrust across the industry and eventually helped trigger the collapse of interbank lending – the system that allows banks to lend to each other overnight – drying up.
The Bank of England shared concerns earlier this year that the growth of private credit funds and “emerging complex structures within them” had created a “need for greater transparency”.
“The interconnectedness between banks and these funds could amplify shocks in the financial system,” the bank added.
HSBC pioneers private credit push
Leading the private credit charge is HSBC, with new boss Georges Elhedery, who took the helm last September, aiming to steer the bank into more high-returning lines.
HSBC injected $4bn into its private credit fund earlier this year as part of a plan to scale the platform to $50bn within five years.
Nicolas Moreau, chief executive of HSBC Asset Management, described the battle to ramp up private credit lines as an “arms race”.
Hart said the relationship between banks and private credit had “grown” beyond banks simply referring clients to firms for loans they could not provide.
“This seems to be a place where the banks are beginning… to actually put some of their capital for the purposes of deploying and it’s becoming a sort of alternative route to market for those banks,” he told City AM.
The UK’s domestic lending banks have adopted a mixed approach to entering the market.
Lloyds, whilst not launching a dedicated fund, has integrated private lending into its commercial banking decision.
Meanwhile, Barclays has partnered with AGL Credit Management as part of its expansion into private credit.
Natwest has used its private banking arm Coutts, which engage in private credit offerings to high-net-worth clients through bespoke borrowing solutions.
The Mansion House Accord designated private credit as one of the key unlisted asset classes to be included in pension giants’ 10 per cent target to invest default funds in private markets by 2030.
This was accompanied by a fleet of regulatory reforms on financial services in a bid to unleash investment and, as Rachel Reeves said, remove the “boot on the neck” of businesses.
Crisis memory
However, there are growing concerns about the risks of private credit to the global economy.
Last year, the International Monetary Fund (IMF) warned of a “number of fragilities” in the global private credit market, which may soon pose a “systemic risk” for the financial system.
Hart said: “Whenever things get a bit loose around the edge, whenever covenants begin to weaken, regulators get worried because they effectively lose a bit of control”.
He added that dilution in covenants would spell trouble for the banks. Dilution refers to a reduction in the value of collateral backing a loan, effectively weakening the lender’s positioning and upping risk.
“If something does begin to go wrong, it becomes much more difficult… for banks to protect themselves”.
As banks explore the potential of private credit, lingering scars of the financial crisis will persist, Hart said.
“Scars take a long time to heal,” he said.
He said for the likes of Lloyds – which exited state ownership in 2017 after government bail out – and the newly-private Natwest would appeal to “little different bits of the market”.
“I don’t think we should forget how some of these banks got hammered, a decade or so ago, and how the impact that has on their risk appetite”.
“You can see that they might be treading cautiously and doing a partnership with an established private credit provider to perhaps give more security.”
The Bank of England unveiled a major shakeup of financial crisis high banking rules in July, easing the regulatory burden across lenders.
Michael Barnett, partner at Quillon Law, told City AM the regulatory response to the 2008 financial crisis offered “some reassurance against future threats”.
But he added a “spiralling trend of investment” into a “complex, risk-driven and under-regulation industry” had made some “wary”.
“While banks that lend to private credit may be better protected than most other investors, their growing interest in this sector fuels its expansion. This, in turn, drives the proliferation of increasingly exotic and highly structured investment products, heightening the risk to investors.
“That is where the cracks start to appear,” Barnett said.
He warned “left unchecked” structured assets could unravel leading to investors rushing for exits “with value crashing around them”.
The future of private credit
Whilst the area has attracted regulatory concern, the booming market can provide greater certainty and flexibility for firms.
Daniel Spendlove, partner at Signature Litigation, told City AM: “All of the signs suggest that it will remain a priority asset class for major capital providers.
“As the market grows, and as a more diverse class of capital providers enter the market, increased regulatory scrutiny will inevitably follow, as will litigation risk.”
Hart said further growth in the UK market would be pegged “quite significantly to the economic environment”.
This included the steadying rate of interest rates, with private credit eyed for further expansion if rates remain “reasonably high,” and maintained “pressures in the global economy”.
But with the likes of HSBC plotting an ambitious and spirited mission to conquer the market, regulators have been urged to get on board.
The Prime Minister himself has pledged to unleash the “animal spirits” of the City as he told City AM readers in March business-facing regulators must place “more emphasis on growth and investment”.
Whilst the ghost of 2008 may remain, Barnett said the only answer regulators should have for the private credit boom was to “get ahead of the industry” with “appropriate levels” of supervision “without choking genuine demand”.