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Investment

Private credit market has lenders sweating

Stamford Capital's Debt Capital Markets survey has revealed that lenders are uneasy about the size and practices of Australia's private credit market.

The survey gauged the sentiment of 100 major banks, non-banks, and second-tier banks.

Stamford Capital said over the last few years, commercial borrowers have grown increasingly comfortable with private credit. Growing demand for fast and flexible finance has fuelled an explosion of private and non-bank lenders in the commercial real estate space.

Australia's private lending market has grown substantially, with assets under management rising from $57.1 billion in 2014 to $148.6 billion in last year, nearly tripling over the decade, according to ASIC.

Stamford Capital managing director Peter O'Connor said private credit has dominated market activity and accounts for around 17% of Australia's commercial real estate debt.

"We've seen a similar shift in our loan book. Five years ago, our lender split was relatively even but aligned with the shift towards the non-bank space, it has reached an 80/20 split," O'Connor said.

However, the rise of private capital is causing concern among the finance sector.

Almost half of all lenders surveyed believe that the private lending market requires stronger oversight and tighter regulation, while more than two-in-three respondents said they had a level of concern about the size of the market and its conduct.

The top issues raised by 69% of the total lending pool surveyed include pushy practices, inexperienced operators, and the sheer volume of players entering the market.

The number of concerned lenders is higher amongst banks (86%), while a notable 43% of non-banks agree that the private lending market requires more oversight and regulation.

La Trobe Financial senior vice president and chief lending officer Cory Bannister said the recent increase of new participants in the private credit sector offers creditworthy borrowers suitable financial options however, it does carry potential risks.

"If these businesses are not sufficiently experienced and capitalised and maintain inadequate standards, it could lead to adverse consumer outcomes and negatively impact the reputation of the private sector overall. We view longevity in the sector as a prized asset," he said.

Nevertheless, O'Connor said private credit fills a "critical gap" in the market, and that there's potential for "heavy-handed oversight" which might stifle the sector's growth.

"While concern is elevating around the lack of compliance and regulation in the non-bank lending space, we do deal with many established and sophisticated counterparts in the non-bank space," he said.

Morningstar also noted that the asset class has gained significant traction over the past 15 years, driven by market conditions such as low interest rates and investor demand - particularly for its floating-rate exposure when bond yields were at low levels.

"Its growth is also underpinned by regulatory changes that compelled banks to pull back from lending to certain segments, in turn creating a crucial financing gap," the research house said.

However, it noted that success in private credit relies heavily on the expertise of fund managers.

"Skilled managers not only structure effective lending agreements but are also adept at executing loan workouts and navigating distressed situations," Morningstar said.

"For example, in cases where borrowers face financial difficulty, managers may restructure loans, take equity positions in a business, and implement turnarounds to recover capital."

It also said that transparency remains a key concern in the private credit market with many private credit funds do not provide detailed information about their holdings, often because of client confidentiality, making it harder for investors to assess risks and returns.

"Private credit represents a dynamic and evolving sector, with immense potential to provide attractive returns, portfolio diversification, and inflation protection," Morningstar said.

"However, investors must weigh these benefits against the challenges of liquidity constraints, borrower default risk, and transparency issues."

Read more: Private creditStamford CapitalMorningstarPeter O'ConnorASICCory BannisterLa Trobe Financial