Net asset value inflated, redemption restrictions! Is the current "PE private equity credit crisis" a new round of "subprime loans"?

A panic is spreading in the private credit market. Fourier Asset Management Chief Investment Officer Orlando Gemes issued a stern warning: “The warning signs we see today in the private credit space are eerily similar to those in 2007.”

He specifically pointed out the deterioration of lender protections and complex liquidity terms that “mask the mismatch between assets investors believe they hold and the assets they can actually exit.”

According to Wind Trading Desk, on February 23, Deutsche Bank published a report titled “Private credit: Smoke, yes, but how much fire?” The report noted that the price-to-NAV ratio of S&P BDC index component funds has fallen to the largest discount since the COVID-19 pandemic shock, with events like Blue Owl restricting redemptions and Breitling’s valuation halving further fueling market panic.

Despite recent declines in related stock prices, Deutsche Bank believes that the conditions for a large-scale market contagion are not yet in place. Investors should closely monitor credit spreads, corporate profits, Treasury pressures, and regulatory changes as four key trigger indicators, while recognizing that over $3 trillion in “dry powder” (uninvested capital) reserves could serve as a critical buffer.

Record BDC Discount: The Market Panic Thermometer

Business Development Companies (BDCs) are becoming a leading indicator of the private credit crisis. Deutsche Bank data shows that these publicly traded entities, heavily allocated to private credit and the software sector, are trading at the highest discounts to NAV since the pandemic.

Panic intensified last week. Blue Owl announced redemption restrictions and asset sales on one of its funds, aiming to boost confidence, but some investors took the opportunity to sell private capital-related holdings. Subsequently, the Financial Times reported that Breitling’s private equity owners have halved their investment value, further fueling market fears.

Non-Bank Financial Institutions: Underestimated Systemic Risk

What is truly concerning is the growing share of non-bank financial intermediaries (NBFIs) in the financial system. Recent research from the New York Fed highlights the risks posed by NBFI growth. Key data shows NBFIs now account for over 50% of global financial assets, and in the U.S., the figure is as high as 60%.

The risk transmission mechanism warrants caution: although banks have reduced direct exposure to the real economy since the financial crisis, they remain indirectly exposed through obligations to NBFIs. Specifically, banks provide senior loans to NBFIs, which then extend junior credit to subsequent borrowers. This multi-layered nested structure could trigger a chain reaction if problems arise.

Federal Reserve Vice Chair Bowman pointed out that before the financial crisis, banks issued 60% of mortgages, but this ratio has nearly halved since, with borrowers turning to non-bank lenders.

$3 Trillion “Dry Powder”: Lifeline or Drop in the Bucket?

Deutsche Bank believes that the over $3 trillion in “dry powder” in the private capital market is sufficient to address recent financial issues, as most large private credit loans are issued by major institutions. These diversified, influential investors are unlikely to refuse capital calls.

However, the mid-market segment is a different story. Many mid-market institutions are heavily reliant on recent sharp declines in software investments, and their lack of diversification makes them the most vulnerable link.

Four Key Indicators: The Crisis Trigger Points

Deutsche Bank explicitly states that for negative scenarios to materialize and trigger contagion among banks, the economic and market backdrop must worsen. Specifically, a combination of the following conditions is needed:

2. Sharp increase in credit spreads and/or interest rates

3. Substantial contraction in corporate profits

4. Worrisome pressures in the Treasury market, especially during debt auctions

5. Changes in bank regulation or capital requirements related to private markets

The key conclusion is: None of these four indicators are currently at levels that pose a danger to the private capital market in terms of triggering broader market contagion and disruption.

Current assessment: There is smoke, but the fire is not yet burning brightly.

Deutsche Bank characterizes the current situation as “heavy smoke, but no clear flames,” emphasizing not to equate liquidity volatility directly with a credit collapse. Additionally, investors often mistake isolated investment issues for broader market trends, a classic misjudgment of “correlation rather than causation.”

Although AI-driven sell-offs are driven by concerns over long-term disruption in software companies, most software firms are likely to retain their clients and profits in the short term, providing cash flow to meet debt obligations.

More importantly, given the strong performance of stocks and credit markets, healthy corporate profits, a resilient U.S. labor market, and overall economic stability, the conditions for a sharp decline in confidence have not yet materialized.

For investors, the immediate focus should be on the four indicators listed by Deutsche Bank and whether the market’s “NAV discounts” in vehicles like BDCs continue to widen. When discounts shift from sentiment to hard constraints in the financing chain, that marks the start of risk transmission from localized issues to systemic problems.

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Market risks are inherent; investment decisions should be made cautiously. This article does not constitute personal investment advice and does not consider individual users’ specific investment goals, financial situations, or needs. Users should evaluate whether any opinions, views, or conclusions herein are suitable for their particular circumstances. Investment carries risks, and responsibility rests with the individual investor.