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Lending from asset managers has quadrupled over the past decade to nearly $2 trillion in assets.

When a business is repeatedly slammed by Jamie Dimon, you know it’s a big deal.

In his annual letter, the JPMorgan Chase boss tore into the private credit industry, warning that the business loans made by lightly regulated private funds will implode when the credit funds’ opaque valuations and illiquidity meet the economy’s next downturn.

“When the shit hits the fan—and it will one day, we don’t know when—there will be a lot of stranded borrowers,” Dimon told a May investor conference, “because some of these people simply cannot roll over loans like we would.”

A less remote concern for the JPMorgan chief may be that the deep-pocketed credit funds have become formidable competitors, even for the world’s biggest bank. Private credit has been one of the fastest-growing businesses at alternative asset giants like Blackstone, Apollo Global Management, and Brookfield, as well as specialists like Ares Management, Blue Owl Capital, and HPS Investment Partners. After quadrupling in the past decade to nearly $2 trillion in assets, private credit is as big as the market for banks’ syndicated loans.

Drawing investors to private credit are yields that exceeded 11% in the past few years, as rising rates swelled income from the funds’ floating-rate loans.

Bankers may grumble, but financial regulators like the Federal Reserve say they aren’t alarmed by what they see in private credit. In fact, commercial banks are joining with credit funds, or getting into the business themselves. At the same meetings where Dimon lashed out at his private credit rivals, his lieutenants explained how JPMorgan is building out a private credit operation.

Private credit’s breakneck pace of fund-raising from pensions, endowments, and sovereign-wealth funds has slowed since 2021. It is increasingly seeking money from wealthy individuals, with retail products that range from publicly listed business development companies, or BDCs, to insurance annuity products and limited partnerships.

What can individual investors expect if they put money into private credit?

Near term returns will likely trend down. Subsiding rates will lower the absolute yields on private credit, from their double-digit heights. Private credit’s spreads over base rates also have narrowed this year, as the cash-rich credit funds compete with each other, and with re-energized commercial banks, for borrowers.

And as Dimon notes, this new kind of finance hasn’t been through a deep downturn.

But private credit has lots of headroom. These nonbank players are set to become a big part of the world’s lending, and they are sure to get a growing slice of investors’ portfolios. As their share of commercial lending grows, so will their investment returns.

Private credit’s growth spurt began after the 2008 financial crisis. As regulators tightened capital requirements for depositor-funded institutions, the banks pulled back from riskier loans to small businesses and to companies bought by private equity. Into the gap stepped business development companies, a kind of untaxed loan fund approved by Congress in the 1980s, as a lender of last resort to small business.

“Your readers will remember the BDCs of 10 years ago,” says Blue Owl co-founder and co-CEO Marc Lipschultz. “They were like junkyards.”

Over the course of the 2010s, says Lipschultz, BDCs supplied capital to companies of increasingly higher quality.

Managers like Ares grew from humble roots into major lenders to mid- and small-size businesses. Ares, Blue Owl, and other alternative asset managers also became the main lenders to companies bought by each others’ private-equity funds.

An alt manager’s private-equity funds necessarily created opportunities for another firm’s credit fund, since it is a potential conflict to lend to companies you are buying. Even after private credit’s fundraising boom, there’s five times as much money on tap at private-equity funds. “We are a very large lender to a lot of those who people would perceive as our competitors,” says Chris Edson, who heads loan origination at Apollo.

Commercial banks also lend to these same noninvestment grade borrowers, in ways that don’t pinch the banks’ regulatory capital. High-yield bonds fund big loans. Smaller loans can be distributed to a broad syndicate of banks and investors.

But come the Covid economic shutdown of 2020, private credit kept on lending, while the high-yield and syndicated loan markets dried up. That touched off another growth spurt that has brought credit funds toe to toe with the banks. At business school job fairs, it’s the Golden Age of private credit.

Next year, private credit may get another competitive boost if the so-called Basel III Endgame rules for bank capital take effect in the U.S., Europe, and the U.K., further constraining the ability of banks to make loans.

Today, the large private credit managers have raised their sights beyond the senior, secured loans that have been their bread and butter. Offering investment-grade loans, asset-based loans, and other sorts of specialized credit, they think they can put tens of trillions to work.

Apollo’s Edson oversees 4,000 people at over a dozen units that each offer different kinds of loans. At Ares, the operating chief of direct lending, Jana Markowicz, has hundreds of investment professionals and loan officers based in local markets. “This is a people business,” she says. “It’s important to be close to the borrowers.”

Private credit has some advantages over banks. Lending from their funds’ capital, to borrowers they usually know, private credit managers can act quickly.

By comparison, most brokers can only tell a borrower that they will try to arrange a high-yield loan. “Their key word is ‘try,’” says Apollo’s Edson. “When a company speaks to us, we can say ‘Here is the money. Here is the documentation.’ That speed and certainty is incredibly valuable.”

How valuable? Private credit firms have been able charge a premium for their floating-rate loans that is two to three percentage points above banks’ broadly syndicated loans, and more than five percentage points above the benchmark known as the Secured Overnight Financing Rate.

As the benchmark rate rose from near zero to 5% in the past few years, these floating-rate lenders raked in investment income. Shares of Blue Owl have doubled since the alt manager announced in 2020 that it would come public via a special-purpose acquisition company, while those of Ares have nearly quadrupled over the same stretch.

For private credit’s borrowers, the rate cycle has been a kind of stress test, as borrowers with floating-rate loans saw their loan payments surge. “They’re obviously paying our funds a lot more interest than they had hoped when rates were close to zero,” says Blue Owl’s Lipschultz. “But their businesses are doing well, on average.”

Some loans have soured. In August, a group of credit funds that included Blue Owl, Ares, and others had to take ownership of a struggling workforce development firm called Pluralsight that fell behind on more than $1 billion of debt. Critics said the private credit bubble was bursting.

But most private credit borrowers have survived the stress test. Over a decade, default rates and losses in private credit matched those of the high-yield market. At the biggest private-credit firms, defaults are 0.1%.

Private-credit managers say they are smart lenders. But a big reason their losses are low is because most of their investors are locked up for as long as 10 years. Unlike commercial banks, they need not fear a run on the bank by spooked depositors. That gives private lenders time to work through problem loans.

The matching duration of private credit’s funding with its loans is one of the reasons that regulators aren’t too worried about the industry, said Sandra Lee, the Treasury Department’s liaison to the Financial Stability Oversight Council, when she spoke to a recent private credit gathering. What’s more, credit funds rarely leverage themselves above one times capital, while banks leverage themselves up to 10 times. Regulators do find the sector opaque, she said.

Pluralsight’s loan workout might have become a fractious mess if a bank had broadly syndicated its loans to many holders.

“If you have a large group of lenders in the mix, it’s much easier to create a cool kids club and pit that cool kids club against a non-cool kids club,” CEO David Golub told investors in his Golub Capital BDC in August. Squabbles happen less in the small, interdependent community of private debt.

Private credit is consolidating among a small number of alt-asset managers, and they must maintain relationships with each other, said Golub.

Like other parts of the alt asset industry, private credit’s bigs are getting bigger.

Goldman Sachs Group manages $140 billion worth of private credit funds. Brookfield has $240 billion, mostly at Oaktree Capital, the firm co-founded by fixed-income guru Howard Marks, and which is now majority owned by Brookfield. Last year, Oaktree raised $19 billion in one of the largest fundings in the industry’s history. That got topped this year, when HPS Investment Partners raised $21 billion.

It’s no surprise that Blackstone ranks near the top, with $355 billion in assets under management in various credit funds in September, including $36 billion in net assets at the BDC nicknamed BCRED, which doesn’t trade on an exchange and is the private credit counterpart to BREIT, Blackstone’s unlisted real estate investment trust.

Instead of lending mainly to buyouts and other leveraged borrowers, Apollo will grow its credit returns by lending to investment-grade corporate borrowers. As of October, Apollo ran $562 billion in credit assets. It’s made big loans to companies like Intel, Sony, AT&T, and AB InBev, and Apollo believes the market for investment-grade private credit could reach tens of trillions. The resulting income will service fixed annuities that Apollo sells through its insurance business Athene—which are one of its products for individual investors.

To bring in direct-lending borrowers, Apollo is joining with banks. In September, it announced a $25 billion program with Citigroup.

“We complement each other,” says Apollo’s Edson. “We don’t want their client because we can’t sell them any other services. We just want the loan asset. They don’t want the long duration loan asset because it doesn’t fit their liability structure. But they want all the other services.”

Then there are Blue Owl and Ares, the alt-managers most focused on credit. Shares in their management firms trade, respectively, for 29 and 42 times this year’s earnings. Since its founding in 2016, Blue Owl has been one of the fastest-growing private credit managers ever. As of June, it managed $95 billion in credit assets.

Over 25 years, Ares grew the credit assets it managed to nearly $325 billion in June, including the largest publicly traded BDC. Its U.S. senior direct-lending business has averaged 13% net returns, with losses of 0.02%. In May, Ares told investors that it thinks it can grow its credit and equity assets to $750 billion by 2028.

“The power of incumbency is very, very real,” says Ares’ Markowicz. “We’re one of the only large firms that has still kept its hand in the lower end of the market.”

With their steady returns in the low-double-digits, private credit managers think they can replace some of the 40% of portfolios that individuals traditionally put into bonds. To reap those returns, however, investors in private closed-end funds have to lock up their money for years.

There are publicly traded BDCs. But their shares are selling at historically high prices, relative to their net asset values, and at high dividend yield spreads to the 10-year Treasury. In other words, don’t be surprised if BDC shares trend lower in the near term.

But in the long term, the demand for credit still far exceeds the private lenders’ size.

Jamie Dimon may be complaining about private lenders for years to come.