Feature: Private credit | The fine print

JPMorgan Chase chief executive Jamie Dimon grabbed headlines last year when speaking at one of the banking giant's quarterly earnings calls.

"When you see one cockroach," he told analysts, "there are probably more."

The cockroach Dimon was referring to was Tricolor Auto Group, an American subprime auto lender and used car retailer that entered liquidation after allegations of pledging the same collateral on multiple loans, costing Chase US$170 million ($236m).

Dimon was warning that the collapse could signal wider problems with the quality of loans across non-bank lending.

More recently Blue Owl Capital - a US listed private credit manager - applied its 5% cap on withdrawals after redemption requests surged on concerns over the value of underlying loans to software companies. Blackstone also froze redemptions after a rise in withdrawal requests.

These episodes have intensified scrutiny across the private credit sector, where funds raise money from investors and then loans to businesses are negotiated between the fund and the borrower directly.

Metrics Credit Partners managing director Andrew Lockhart contends the current rhetoric is designed to create fear among investors against the asset class.

"The asset class is not homogeneous," Lockhart says.

"This idea that all private credit, all private credit managers, all risks and returns are the same is not correct."

While the US private credit players loan to corporate balance sheets for expansion, Lockhart notes most of Australia's private credit is backed by hard real estate assets.

Real estate private credit manager MaxCap's deputy chief executive Kylie Robb says, like much of the world, the evolution of private credit in Australia is driven by a gap left by banks withdrawing from commercial real estate lending.

"The nature of private credit today is responding to that economic need," she says.

Robb notes real estate lending has a completely different risk profile with usually a shorter loan tenure and average maturity of 12 months, giving a natural redemption and forming a defensive part of private credit.

She adds there is no better or worse when it comes to the type of business one lends to - it all comes down to the risk versus the reward the fund is willing to take, with each deal assessed on its own merit.

Lockhart agrees. He notes what tends to happen is investors get seduced by headline return targets that can be similar to those of equities without fully understanding the risk profile attached to it.

Metrics is one of the few funds, he says, that lends across the risk spectrum from investment grade loans to riskier mezzanine debt, adding it's about helping investors understand where they sit in the capital structure.

"I think the whole position here is about how do you create investment products that signal clearly to an investor what the return target is?" Lockhart says.

Last year, Lonsec downgraded two of Metrics' funds on governance concerns - the Metrics Income Opportunities Trust went from 'recommended' to 'investment grade', and Metrics Master Income Trust from 'highly recommended' to 'recommended'.

This was on concerns of restructuring the Metrics Credit Trust (MCT), which involved an asset swap of MCT's interest in BC Group and Taurus in return for an interest in Metrics Credit Holdings.

Zenith Investment Partners, however, did not budge by keeping its view of 'recommended' and 'highly recommended' for both funds respectively.

The other part of the equation is who invests in these funds.

Cbus head of debt and alternatives Linda Cunningham says over the last five years there has been a rise in packaging up and selling private credit funds to retail investors globally, which had traditionally been a playground for bigger institutional and wholesale players.

Investors who expect regular liquidity from an illiquid asset is a classic mismatch, Australian Retirement Trust (ART) general manager of mid-risk assets and UK Michael Weaver says.

"It's no wonder problems get created," he notes.

With major funding coming from institutional investors, Robb refers to a large base of MaxCap's investors as 'patient capital' - they understand investing through the cycle and don't get easily spooked by short-term noise.

ART doesn't expect quarterly liquidity, Weaver says, because it understands the underlying asset and the lending arranged by the manager.

And the $370 billion super fund doesn't like to mix its institutional money with funds that may have retail money in them, he adds.

"That is at least an amber flag for us. Because we don't think that's in our members best financial interest," Weaver says.

Cunningham also notes Cbus will not sit in a vehicle that has retail investors in it.

Lockhart says if Metrics commingles different types of investors in a fund, it must ensure all participants are treated equally. If an institutional player doesn't want to mix their capital with retail investors, the manager is happy to set up a segregated account for the investor and offer a single investor trust.

The rapid growth of private credit as an asset class, introduction of retail money to it as well as limited understanding of the risk profile by this investor base has also heightened regulatory scrutiny.

ASIC's 2025 review concluded private credit is good for the economy, borrowers and investors - but only if done well. While  the $200 billion sector has grown rapidly, it needs improvement and, in some cases, "materially so".

Its review pushed for transparency across the sector on investment strategy, exposures, valuations, risks and fees. It said this would support comparability and informed decision-making by investors. While related party transactions are not inherently problematic, ASIC said, they can be a source of potential misconduct and have adverse outcomes for market efficiency and investor fairness.

Boutique real estate manager Woodbridge Capital managing director Andrew Torrington says at present there is no consistency in disclosures by funds.

"They can show it how they like, fees on page one or page 20. For your average investor, it's impossible to get through them," he says.

Mercer head of wealth management investment solutions Rebecca Jacques says: "We totally understand some of ASIC's concerns."

The asset consultant acts as a matchmaker, vetting private lenders and connecting them with the right capital.

"As you go down into less sophisticated investors that probably haven't read the 65-page fine print of all the documents, then they suddenly get surprised by something that was actually already part of the terms and conditions," Jacques adds.

In September last year ASIC told La Trobe Financial, the $23 billion private credit manager, to stop offering some of its products for three weeks on concerns target market determinations (TMD) did not adequately specify an investment timeframe for retail clients.

"These products are not bank deposits," ASIC said, noting returns are not guaranteed and dependent on future revenue of the assets.

Robb agrees the industry is still too opaque.

"They're trying to increase transparency and clarify what doing well actually looks like to get more consistency across participants," she says.

Cunningham welcomes ASIC's focus on transparency of fee margins, stating Cbus just pays its managers a fee to manage the assets and there is no performance fees on the investments.

"If someone is promising them 3% over on this private credit, if the manager is actually charging the borrower 6%, is that fair? The investor is taking the credit risk, and they are the ones who will lose the money on it," she says.

Torrington says his rule to manage conflicts  of interest is simple: external fund trustee, external fund administrator and external and independent valuations.

With 90% of its private credit investments offshore in the US and Europe in corporate lenders, Weaver says ART manages risk in the portfolio by keeping it extremely diversified by manager and underlying credit.

"You're not really paid for the upside in credit, so diversification is the free lunch," he says.

ASX-listed real estate manager Qualitas group managing director Andrew Schwartz says the loan agreements have tight terms and conditions that set the covenants enabling funds to actively monitor and manage the portfolio.

Beyond the real estate fundamentals, he says for Qualitas the borrower is equally as important.

"We're really big believers in the soul of the person that we're lending to," he adds.

Jacques notes Mercer picks managers that can move through different market cycles.

She says in a downturn distressed and junior debt can offer high rewards but could risk getting locked in on economic recovery, making it important to look at how they are managing a normal economic cycle.

Cunningham adds appointing a manager can take up to 12 months with a focus on the fund's track record as well as a substantial business behind them.

"You don't want to have a key person risk," she says.

If the key person leaves the next day, she stresses it is fundamental to check if the business has the bench strength behind it and a natural person to step into the role.

Another factor to consider is who else is in the syndicate.

"Who will we have to work with if something does go wrong on this asset? Who's the agent, who's the trustee... there'll be transactions where we want to make sure we've got good, like-minded lenders alongside us," Cunningham says.

While things will still go wrong at times, Jacques says one wants managers who don't just throw their hands up when things go wrong and know how to get your money back.

In 2024, Metrics opted to take control of the struggling Pacific Hunter Group now renamed Hunter St. Hospitality - owner of Rockpool Bar and Grill - after it defaulted on debt obligations.

"There is always going to be investment risk. We're not perfect," Lockhart says.

"What people think is that when you take control of a defaulted asset, that you've also lost money. It's not the case."

Lockhart says he would be more concerned if a manager never disclosed taking control of an asset to protect value.

"You'd sit there and say, 'Well, that must be a problem'. You are just not managing the risk," he says.

In contrast, Schwartz says Qualitas is not interested in having problems and having to deal with owning properties in its debt strategy.

At Mercer, it's not a black-and-white approach; it would look at the skill set and heritage of the manager taking over the ownership. Jacques adds Mercer would question how the manager is able to get better returns, if there is concentrated risk, and if there is a core competency in managing the asset.

While Jacques says Mercer considers Metrics a very good real estate debt manager, it chose not to participate in those vehicles that took Rockpool's ownership as it did not see it as an area of core competency.

Both Lockhart and Schwartz agree size matters tremendously in the business.

"Size matters in that you need to have critical mass by way of funds under management so that you don't cut corners in how you really think about loans and how you manage loans," Schwartz says.

He adds it is harder for smaller funds to qualitatively say no to a lot of opportunities as well as afford to have the infrastructure around them to tightly manage their portfolios.

Additionally, Schwartz says, there is no substitute for local knowledge.

"I do think that where potentially people fly in and fly out of the country looking for investments, it's hard for them because they don't know the markets. And real estate is not one market," he notes.

A spokesperson for ASIC says in FY27 the regulator will conduct a data gathering pilot for a small sample of retail and wholesale funds in a bid to calibrate baseline data needs across the sector. It also plans to address areas of poorer practices within wholesale private credit funds.

Torrington says a lot of the money going into private credit is also coming through wealth investors from the adviser channel.

At present, a wholesale investor is someone with net assets of at least $2.5 million or a gross income for each of the previous financial years of at least $250,000 a year.

"They're likely not truly sophisticated investors. They're mum and dad investors putting money in with no protection," Torrington says.

ASIC already recommended the government increase this threshold in 2024, stating individual wealth tests have drastically changed in the last 20 years. In 2025, ASIC reiterated the need for this reform in view of its private market surveillance work.

Looking ahead, Torrington says adviser education will be key.

"They should know what to ask. I'm always saying advisers will fix this long before ASIC," he adds.

While advisers are getting better and blunt with their questions, Torrington says there is still room for improvement.

Going forward, Cunningham predicts retail investors will realise this is not the liquid investment they thought it was, and the private credit premium they were getting a few years ago has probably dissipated a little.

"I think potentially there won't be as much volume of funds under management in the private credit space that is actually sold to retail investors," she notes.

And if there is a retreat of investors, she says, for most good transactions and deals they will be able to go back to either the private market or go to the public markets.

Weaver sees the current noise as a good opportunity for ART to invest more in the space.

He also doesn't see any systematic risks in the software sector in the US. ART has less than 0.5% of its private credit exposure in its largest software related asset, a small portion of the whole fund.

"Because these are cash-flowing businesses, they would need to have a major change before there's any significant impairment to the lender to the asset," he says.

He also notes these concerns are not likely as the whole size of the market in the US is just under US$2 trillion, which is less than half the market capitalisation of some of the largest listed equities globally. Nvidia just by itself has a market capitalisation of US$4.8 trillion.

Cunningham on the other hand sees a gradual wind down of some software businesses in the next 12 to 18 months, which she says will have an impact on private credit.

"Private credit, public credit and private equity are going to get surprises when they find out artificial intelligence can do things they didn't expect it to be able to do for them," she says.

Amid a shortage of housing in Australia, Lockhart says private credit also bridges the financing gap for residential development and a rising interest rate environment can challenge the feasibility of some projects.

Schwartz notes while this would mean higher rates and improved credit spread for private credit players, it is important to account for the negative impact on property values.

"A seasoned lender needs to be careful about the value of their underlying securities and the properties. A good lender with a good track record and with local knowledge really will understand how to navigate that very carefully," he says.

Back in the US, Dimon recently told shareholders in his annual letter that private credit probably doesn't pose systemic risks, in the "grand scheme of things".

"We have not had a credit recession in a long time, and it seems that some people assume it will never happen," he says.

He notes if anything ever goes wrong, one should assume retail investors, even though they were told about some of the risks, will seek remedy in the courts.

But for now, Dimon is still on the lookout for the roaches. fs