Private credit's hidden collateral

This article is part of In conversation about sustainable finance & emission reduction systems, a new series by Diego Balverde. You're reading volume 15 of the Collateral Crisis series. Here is volume 14

Prologue

The global private credit market reached an estimated US$1.5 trillion to US$2 trillion by the end of 2024 and continues expanding because it provides something companies genuinely need: tailored structures, faster execution, financing for borrowers with different risk profiles and the ability to operate where regulated banks or public markets cannot always provide an adequate solution.

The Financial Stability Board recognises these benefits while also warning that growth is deepening interconnections among funds, banks, insurers and private equity and that vulnerabilities remain around borrower credit quality, leverage, concentration, liquidity and valuation opacity.

Available data capture around US$220 billion in direct drawn and undrawn bank credit lines to private credit funds, while commercial estimates can be higher. The point is not that private credit is inherently a crisis waiting to happen. It is that an increasing share of global credit is being originated, held and valued outside the daily transparency mechanisms characteristic of traded markets.

When the price does not trade, risk does not stop existing

A private loan may appear less volatile than a traded bond because it does not receive a new market price every second, but less frequent valuation does not necessarily mean lower economic volatility. Borrowers continue to experience changes in energy, demand, competition, technology, interest rates and supply chains even while the instrument remains inside a portfolio valued through models.

This is where hidden collateral emerges. A loan may be secured by machinery, equity, intellectual property, cash flows, infrastructure or receivables, yet the actual capacity of those assets to recover principal will only become fully visible under adverse conditions.

A machine with a high book value but low utilisation and excessive energy requirements does not offer the same economic protection as an equally valued asset operating at high productivity. A data centre can be extraordinarily valuable when power, grid connection, contracts and utilisation are secure, and materially less defensible when those conditions weaken. A software company can lose terminal value rapidly if artificial intelligence disrupts the economics supporting its original valuation.

Price can remain stable while the underlying economics change.

Private credit is connected to the entire system

Risk also does not remain isolated inside the fund. Banks provide financing to managers, insurers and pension funds purchase exposures, private equity uses private credit to finance acquisitions, companies simultaneously maintain bank and private debt, and significant risk transfer structures create additional connections between regulated balance sheets and private capital.

This is why the FSB emphasises the need to understand those interconnections before a prolonged downturn fully tests the modern private credit model. If a large group of borrowers needs refinancing simultaneously, if valuations become contested or if investors in vehicles offering periodic liquidity attempt to redeem capital while the underlying assets remain fundamentally illiquid, stress can move into high-yield bonds, leveraged loans, equities and ultimately banks financing different parts of the ecosystem.

The central vulnerability is therefore not that credit risk has moved outside banking. It is that the system may not know rapidly enough where the risk ultimately resides and what it is worth.

Artificial intelligence will be an extraordinary test

Artificial intelligence can become simultaneously one of private credit's largest opportunities and one of its most important stress tests. Data centres, electricity networks, generation, storage, semiconductors, cooling and digital infrastructure require extraordinary amounts of long-duration capital, creating a natural role for private lenders.

Yet the same technology can destroy the revenue base of software companies originally financed on the assumption that specific products would preserve value for many years. This forces capital to distinguish technological promise from verifiable physical capacity.

Available megawatts, grid connection, utilisation, contracted demand, energy efficiency, availability, maintenance, degradation and cash flow can all be observed. When lenders obtain access to these variables, valuation becomes less dependent on projection alone and more closely connected to what the asset actually does.

The same principle can apply to BESS, ports, industrial plants, buildings, water and logistics, allowing private credit to evolve from a market with lower price transparency toward one potentially offering much stronger performance transparency.

Collateral intelligence is the solution

The response should not be to reduce private credit, because Europe and the world need more financing channels. It should be to build infrastructure capable of observing assets throughout the life of the loan.

DOIX can establish the baseline before capital is deployed and monitor energy, production, utilisation, availability, degradation, maintenance, throughput, working capital and contractual variables. BalGreen can identify deterioration that remains economically correctable and intervene before it becomes restructuring. Financial covenants can remain central while being supported by operational information that reveals a negative trend months before default.

This separates two concepts often treated as identical: price transparency and performance transparency. A loan does not have to trade every day for the lender to know that the asset has begun producing less, consuming more, losing availability or weakening debt-service economics. Private markets can preserve patient capital while gaining much better knowledge of what that capital owns.

Analysis

BalGreen's opportunity therefore extends beyond new projects and into already financed portfolios. A private credit fund, insurer or bank can own exposures to dozens of industrial companies containing hundreds of physical assets, each accumulating operational losses that have not yet become defaults.

DOIX can map those losses, BalGreen can identify what is recoverable, the lender can provide additional CAPEX where intervention is economically justified and DOIX can verify the recovery. Private credit then stops being only patient capital and can become active capital, capable of defending the value of what it financed.

The industry will increasingly have to ask whether private assets are genuinely less volatile or whether their prices are simply discovered less frequently, whether NAV can remain reliable when physical operations change faster than financial valuation, whether lenders should continuously observe the variables supporting cash flow and whether the winner in the next downturn will be the fund with the most sophisticated financial documentation or the one that actually knows what is happening inside its assets.

Conclusion

Private credit will continue expanding because it solves a real economic need, but its next phase cannot depend only on originating loans and waiting for the next valuation. The larger the market becomes, the more valuable it will be to understand the asset before default arrives.

The real revolution is not making everything private public or forcing every loan to trade. It is observing the economic performance supporting the debt. DOIX measures what financial statements cannot yet see, BalGreen corrects the loss before it becomes credit deterioration, DOIX verifies the recovery, lenders reassess the asset and investors receive yield backed by measurable performance.

The winning private credit fund will not necessarily be the one originating the highest-yielding debt. It will be the one capable of explaining why that yield exists, what risk supports it, how that risk is evolving and what can be done to protect the underlying economic value.

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