Darrell Clark, Deputy Head of Research & Sector Manager – Alternatives, Lonsec Research and Ratings
The rise of private credit
The private credit industry has grown rapidly in recent years emerging as a key alternative to traditional bank lending. EY has estimated the size of the Australian private credit sector to be A$188b in assets under management comprised of A$112b in business related loans and A$76b in commercial real estate loans (EY, 2024). The IMF has estimated global private credit at approximately US$2.1 trillion (IMF, 2024). This expansion has been driven by several factors, including banks’ retreat from riskier lending following the GFC.
Private credit can present compelling opportunities for both investors and borrowers. Unlike traditional bank loans, private credit offers bespoke financing solutions, making it particularly attractive to middle-market businesses, infrastructure projects, and property developers that may struggle to access capital through conventional means. Institutional investors, including superannuation funds, are also increasingly allocating capital to private credit as part of their portfolio diversification strategies, attracted by its historically strong risk-adjusted returns and low correlation with public markets.
However, this growth also brings significant risks and challenges, prompting regulatory scrutiny from bodies including ASIC.
Challenges & Risks
ASIC’s recent discussion paper highlights several key concerns, including valuation uncertainty, illiquidity, leverage, and conflicts of interest (ASIC, 2025). Unlike public markets, where pricing transparency is well established, private credit valuations are infrequent and subjective, leading to potential mispricing of risks or within semi-liquid funds the potential for inequity between those applying for units and those redeeming units. Additionally, many private credit borrowers are highly leveraged, raising concerns about financial stability in the event of an economic downturn. Illiquidity remains a major challenge, as loans can be long-term, restricting investors’ ability to exit positions quickly. Regulatory oversight is likely to continue to evolve, with ASIC supervision to focus on governance, valuation methodologies, and investor protections.
As private credit continues to expand, balancing its opportunities with risk management is essential.
Lonsec’s Experience in Private Credit
Lonsec currently researches and rates 28 private credit funds, 20 of which are Australian Private Credit. In contrast to the global peer group which is heavily focused on direct corporate lending, the Australian peer group is 55% focused on multi-sector approaches and 45% on real estate lending.
In addition to the growth we have seen over the past three years, Lonsec has also declined to initiate coverage on a meaningful number of funds.
The Lonsec Approach
Lonsec’s approach to the growth in Australian private credit funds has led to adjustments and an uplift to the seven-factor model and the governance framework overseeing the initiation of coverage.
1. Uplifting the seven-factor model
Lonsec uses a seven-factor model as the foundation for research ratings, with the Product factor specifically designed to evaluate the structure of the investment product under review.
Before conducting our 2024 Alternatives Sector Review, the Product factor within our private markets model was enhanced to better capture the additional risks associated with private market funds, such as illiquidity and valuation governance. This has assisted us in capturing the additional risks of this sector and opinions are detailed in the Product Review reports.
2. Initiation of coverage
When fund managers approach us to have their products researched, these requests undergo vetting by a Product Sub-Committee. The focus areas outlined in the table below represent a selection of minimum hurdles or ‘gates’ and showcase examples of managers and funds unlikely to move forward in the Lonsec rating process.
| Factor | Areas of Heightened Risk | Lonsec Focus Area | Gated Example |
|---|---|---|---|
| Business | Governance | Evaluation of oversight frameworks to manage risk and ensure transparency. | Commercial interests represented on IC. |
| Start-ups | Cautious engagement with early-stage businesses, balancing opportunity with risk. | Business in its infancy spun out from the private sector with lack of audited track record. | |
| Vertical Integration and/or related party issues | Evaluation of the benefits and risks of integrated business models | Integrated property development and financing business with asset management lending to internal projects. | |
| Product | Expertise & Independence | Assessment of Investment Committee structures to minimize conflicts and enhance decision-making. | Clear equity-debt conflict on the IC with lack of independent oversight |
| Complexity of Warehouse structures | Assessment of structural nuances in financing vehicles and funding models. | Asset based financing structure with complexity, lack of transparency and look through to underlying counterparties. | |
| Team | Resourcing | Adequate personnel and systems to support portfolio management and due diligence. | Small team with lack of dedicated work-out resourcing. |
| Process | Portfolio Diversity | Maintaining a well-balanced mix of sectors, borrowers and loan structures. | Australian private credit funds heavily focused on development or with sub-scale number of loans. |
| Risk management/underwriting standards | Adequate portfolio oversight and monitoring supporting by underwriting standards | Higher than expected number of loans in arrears and/or loans in default. |
While applying the above to all private credit funds Lonsec has engaged with domestically, it is our experience that global private credit funds have generally been stronger in their governance practices.
Where to from here?
Private credit has been seen as an attractive opportunity for investors, providing diversification, enhanced income streams, and reduced volatility compared to traditional asset classes. As a non-bank lending alternative, private credit can be particularly attractive in periods of market dislocation, offering stability when public markets experience fluctuations.
While private credit clearly has benefits, it also carries risks related to illiquidity, valuation governance, and leverage among others. Lonsec applies rigour in any review process to ensure these factors are thoroughly captured and integrity is maintained in any rating generated.
Moreover, Lonsec seeks to remain adaptable to evolving market dynamics and ASIC’s ongoing reviews of private markets, ensuring our approach aligns with best practices and regulatory expectations.
References
- Paphitis S and L Gaede (2024), ‘Annual Australian Private Debt Market Update for 2024’, EY Report, February 2024.
- IMF (International Monetary Fund) (2024), ‘Chapter 2: The Rise and Risks of Private Credit’, Global Financial Stability Report, April 2024.
- RBA (2024), ‘Growth in Global Private Credit’, RBA Bulletin, October 2024
- ASIC (2024), Australia’s evolving capital markets: A discussion paper on the dynamics between public and private markets, February 2025.
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