Key Points

• Private credit’s recent corporate direct lending headlines reflect real challenges. But rather than being evidence of a broken market, we believe these headwinds may reveal the characteristics of a healthy reset in a more mature market.
• Today’s headwinds may create tomorrow’s tailwinds. Muted deal activity may help restore lender discipline, repricing may improve forward economics for new capital and borrower stress may increase manager differentiation, distinguishing those that have maintained discipline from those that have relied too heavily on benign market conditions.
• The next phase may reward the same traits that have long made corporate direct lending attractive: contractual income, seniority in the capital stack vs. equities, structure and risk-mitigation potential. Direct lending may also reward managers that have the flexibility to invest across a broader range of private credit strategies.

Introduction: A Private Credit Reset

Private credit has entered a new and more nuanced phase. After more than a decade of rapid growth, the corporate direct lending market is now facing greater scrutiny with regard to underwriting, valuations, liquidity, sector exposure and borrower health.

These concerns are valid, yet we believe they are more likely to be signs of a maturing market than a broken one. While we do not think the current environment necessarily represents a full credit cycle, we do believe the market is being tested. That test reveals dispersion across borrowers, sectors and structures, and between managers with disciplined underwriting and those that may have relied too heavily on benign market conditions.

We believe some of private credit’s current headwinds may become tailwinds, such as better pricing, stronger structures, more disciplined deployment of capital, greater manager differentiation and a renewed focus on private credit strategies beyond corporate direct lending. Whether that comes to fruition will depend on how the credit cycle evolves, as well as managers’ ability to source opportunities, underwrite rigorously and maintain the discipline to say “no”—especially as private credit’s less headline-grabbing attributes, including contractual income, covenants, collateral, seniority and patient capital, become even more valuable.

Headwinds and Potential Tailwinds to Watch

Headwind: Muted deal activity. The private credit market has noticeably cooled down in recent months. U.S. direct lending volume declined 10% in 2025, while deal count was down roughly 16%.¹ That represents a real decline, yet activity remains above pre-2024 levels. The greater decline in deal count vs. volume also suggests that the market is seeing fewer but larger deals as lenders and borrowers become more selective.

Potential tailwind. Slower deal activity may increase the importance of deployment discipline, but lower supply does not automatically lead to better terms or better deals. In a more selective market, disciplined lenders can wait for better risk-adjusted opportunities rather than compete aggressively for every deal. At the same time, limited supply can create more competition among lenders looking at the same higher-quality borrowers, potentially pressuring spreads. There are early signs that newer deal activity may be reflecting a higher-quality mix of borrowers, as interest coverage ratios averaged 2.5x in the second quarter of 2026, up from 2.3x in the first quarter, marking the highest level observed since the third quarter of 2022² (see below). Managers with patience and readily available capital may be positioned to originate higher-quality vintages.

Headwind: Repricing and valuation pressure. As investors reassess risk across credit markets, private credit valuations have come under pressure. Loans made during the more accommodative part of the rate and credit cycle may now face lower marks as managers reappraise credit risk, borrower performance and the assumptions that supported earlier valuations. At the same time, corporate direct lending spreads have compressed from historically wide levels, reducing the spread premium vs. liquid credit. This has put greater focus on whether investors are being adequately compensated for risk.

Potential tailwind. Repricing can create opportunities because it often reflects changing risk appetite and may improve forward economics for new capital. Even after spread compression, corporate direct lending spreads exceeded broadly syndicated loan spreads by roughly 150 basis points (bps) on average over the last 12 months (see below). But private credit’s value proposition may also come from structure, covenants, collateral, seniority and the ability to tailor solutions for borrowers in ways that are not always available in public markets. In a less accommodative deployment environment, private credit may be less about pursuing incremental yield and more about earning appropriate compensation for illiquidity, complexity and credit risk through disciplined underwriting, credit selection and risk mitigation.

Headwind: Borrower stress. While overall credit markets may appear relatively calm, we think there is borrower stress beneath the surface. Higher rates, elevated leverage levels and looser underwriting standards have pressured certain borrowers, particularly those with capital structures created during the lower-rate part of the cycle. As refinancing needs approach, weaker credits may face greater pressure—including certain pre-2022 software loans built for a lower-rate, higher-valuation environment; ARR-based³ loans; and over-levered structures.

For example, software has historically been viewed as an attractive area for private credit because many businesses had recurring revenue, sticky customer bases and stable cash flows. But the combination of higher rates, elevated leverage and AI-related disruption has changed the underwriting equation. Not all software businesses face the same risks: companies with durable customer relationships, high switching costs, mission-critical products and realistic refinancing paths may look very different from those that relied heavily on elevated valuation multiples or aggressive capital structures. That distinction reinforces broader dispersion and underscores the idea that credit selection is imperative.

Potential tailwind: Borrower stress can create potential opportunities, and not simply because stress exists. Rather, a more difficult environment may help the market distinguish risk more clearly, increasing manager differentiation and reinforcing the importance of underwriting, credit selection and manager selection. More disciplined managers may be better positioned to identify stronger borrowers, avoid credit losses and preserve value.

Stress and dislocation may also create opportunities. When selling becomes more indiscriminate, managers with available capital may be able to buy selectively at more attractive prices. If stress becomes more pronounced, it may also create rescue lending opportunities.

At the same time, private credit is evolving beyond traditional corporate direct lending. Not all private credit is created equal, and investors that have corporate direct lending allocations may benefit from exposure to other areas of the private credit market. Asset-backed finance (ABF), for example, can provide exposure to contractual cash-flowing assets across sectors that may be less correlated to traditional corporate balance sheet repayment risk.

Bottom Line

Today’s corporate direct lending headwinds are real, but they do not tell the entire private credit story.

Slower deal activity may restore lender discipline. Repricing may improve forward economics for new capital. And while borrower stress may increase manager differentiation, it may also create opportunities for prepared managers with capital, underwriting discipline, cycle experience and the flexibility to invest across a broader range of credit strategies.

These trends may sound less exciting than the rapid growth story that had defined private credit in recent years. Yet the power of stable income, seniority, structural protections and risk-mitigation potential can be easily overlooked when markets are calm and capital is abundant. As today’s headwinds test the market, those same attributes may help drive tomorrow’s tailwinds.

Read More in our Alts Quarterly Q3 2026.

END NOTES

1. Hyder Kazimi, John Spivey and Warren Teichner, Private Credit in 2025: A Maturing Industry Navigates Change, McKinsey & Company, June 9, 2026.

2. Interest coverage across newly issued U.S. direct lending loans; annual recurring revenue (ARR) deals excluded. KBRA DLD Research, June 30, 2026.

3. ARR loans are typically tied to negative or low EBITDA companies. These businesses tend to be more sensitive to shifts in growth expectations and cash-flow durability, particularly during periods of technological disruption. ARR is a measure of the predictable annualized revenue generated from recurring customer contracts or subscriptions.

4. Kazimi et al., Private Credit in 2025.

A WORD ABOUT RISK

As an asset class, private credit comprises a large variety of different debt instruments. While each has its own risk and return profile, private credit assets generally have increased risk of default, due to their typical opportunistic focus on companies with limited funding options, in comparison with their public equivalents. Because private credit usually involves lending to below-investment-grade or non-rated issuers, yield on private credit assets is increased in return for taking on increased risk.

Investments in real estate-related instruments may be affected by economic, legal or environmental factors that affect property values, rents or occupancies of real estate.

Infrastructure companies may be subject to a variety of factors that may adversely affect their business, including high interest costs, high leverage, regulation costs, economic slowdowns, surplus capacity, increased competition, lack of fuel availability and energy conservation policies.

Alternative investments often are speculative and include a high degree of risk. Investors could lose all or a substantial amount of their investment. High-yield bonds are subject to interest-rate risk. When interest rates rise, bond prices fall; generally, the longer a bond’s maturity, the more sensitive it is to this risk. Yields are subject to change with economic conditions. Yield is only one factor that should be considered when making an investment decision.

Investment opportunities related to artificial intelligence and emerging technologies involve significant risks including rapid technological change, regulatory uncertainty, market speculation, and the possibility that anticipated technological advances may not materialize as expected. AI-focused investments may be highly volatile and speculative in nature. Forecasts regarding AI adoption, data center demand, electricity consumption, and related infrastructure development are inherently uncertain and may not develop as anticipated.

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Key Terms and Index Definitions

Annualized Net Return is the geometric mean of the returns with respect to one year. It represents periodic returns rescaled to a period of one year.

Bloomberg Global Aggregate Index is a market-capitalization-weighted index comprising globally traded investment-grade bonds. The index includes government securities, mortgage-backed securities, asset-backed securities and corporate securities to simulate the universe of bonds in the market. The maturities of the bonds in the index are more than one year.

Bloomberg U.S. Corporate High Yield Bond Index measures the USD-denominated, high yield, fixed-rate corporate bond market.

Capitalization Rate (Cap Rate) is a real estate return metric used to estimate a property’s value based on its income potential. It is calculated by dividing the property’s net operating income by the present-day value of the property as indicated by prevailing market rates.

Cliffwater Direct Lending Index (CDLI) seeks to measure the unlevered, gross-of-fee performance of U.S. middle-market corporate loans, as represented by the asset-weighted performance of the underlying assets of business development companies (BDCs), including both exchange-traded and unlisted BDCs, subject to certain eligibility requirements.

Direct Lending Yield is represented by current yield, calculated as the most recent quarter’s interest payments divided by average assets over the quarter.

Dry Powder refers to committed but uninvested capital that private fund managers have available for future investment opportunities.

Enterprise Value to Earnings Before Interest, Taxes, Depreciation and Amortization (EV/EBITDA) is a valuation metric that compares a company’s total enterprise value to its EBITDA and is commonly used to assess relative valuation across companies and transactions.

FTSE EPRA Nareit Developed Real Estate Index is an unmanaged market-capitalization-weighted total-return index that consists of publicly traded equity REITs and listed property companies from developed markets.

Green Street Commercial Property Price Index (CPPI) is a time-series index published by Green Street, which tracks the value of U.S. commercial real estate properties. The index is based on transaction prices and appraisals of institutional-quality properties across major sectors, including office, industrial, retail and multifamily. It is widely used as a benchmark for changes in commercial property values over time.

ICE BofA U.S. High Yield Index tracks the performance of USD-denominated below-investment-grade corporate debt publicly issued in the U.S. domestic market.

Industrial Production: Manufacturing: Durable Goods: Semiconductor and Other Electronic Component Index measures the real output of all relevant establishments located in the United States, regardless of their ownership, but not those located in U.S. territories. The Federal Reserve’s monthly index of industrial production and the related capacity indexes and capacity utilization rates cover manufacturing, mining, and electric and gas utilities.

MSCI World Index is a free-float-adjusted market-capitalization-weighted index that is designed to measure the equity market performance of developed markets.

NCREIF Property Index (NPI) is a quarterly, unleveraged composite total return for private commercial real estate properties held for investment purposes only. All properties in the NPI have been acquired, at least in part, on behalf of tax-exempt institutional investors and held in a fiduciary environment.

Net Asset Value (NAV): The per share value of a mutual fund, found by subtracting the fund’s liabilities from its assets and dividing by the number of shares outstanding.

NFI-ODCE Index is an index of investment returns (gross of fees) of the largest private real estate funds pursuing a core investment strategy, which is typically characterized by low risk, low leverage (less than 40%), and stable properties diversified across the U.S.

Preqin Infrastructure Index captures in an index the return earned by investors on average in their private infrastructure portfolios, based on the actual amount of money invested in private capital partnerships. Each data point is individually calculated from the pool of closed-end funds for which comprehensive performance data is held, as of both the start and end of the quarter.

Preqin Private Equity Index captures in an index the return earned by investors on average in their private equity portfolios, based on the actual amount of money invested in private capital partnerships. Each data point is individually calculated from the pool of closed-end funds for which comprehensive performance data is held, as of both the start and end of the quarter.

Preqin Real Estate Index captures in an index the return earned by investors on average in their private real estate portfolios, based on the actual amount of money invested in private capital partnerships. Each data point is individually calculated from the pool of closed-end funds for which comprehensive performance data is held, as of both the start and end of the quarter.

Recapitalization is the process of changing the mix of debt and equity in an investment’s capital structure to optimize financing. In private equity, this may involve exchanging debt for equity or vice versa, such as selling shares to pay down debt. In real estate, recapitalization often means bringing in new investors to adjust the debt-equity balance. The main goals are to improve financial structure, manage debt, restructure ownership, or enhance underperforming assets.

Secondary Pricing refers to the price at which existing interests in private funds are bought and sold in the secondary market, often expressed as a percentage of the underlying fund’s net asset value (NAV).

S&P 500 Index is a market-cap-weighted equity index of 500 widely held, large-capitalization U.S. companies.

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