Latest / The European Economy Podcast with Fexingo: ECB, Eurozone, and Continental Markets / Eurozone Private Credit Is Reshaping Corporate Lending
Transcript
- Lucas: So the latest data on Eurozone bank lending is out, and it's still contracting — business loans down about one percent year-over-year in June. But here's what's interesting: the companies that can't get bank money are finding it elsewhere. Luna: You mean private credit? That market has been exploding over here. Lucas: Exactly. Private credit assets under management in Europe just hit one point two trillion euros. That's up twenty-eight percent from last year. And it's not just a US story anymore. Luna: That's a big number. And it's interesting timing — banks are pulling back because of Basel III endgame rules, higher capital requirements. So private credit steps in. Lucas: Right. But the thing that a lot of people miss is that this isn't just about junk-rated companies. A lot of the borrowers are solid mid-market firms — say, a German manufacturer with fifty million in revenue — that used to go to their Hausbank. Now the Hausbank says, 'Sorry, our cost of capital is too high.' Luna: So they go to a direct lending fund that can underwrite faster and with fewer covenants. Speed and flexibility over price. Lucas: And that's the trade-off. These loans are floating rate, so borrowers are paying maybe three hundred to four hundred basis points over Euribor. That's expensive. But they get the money in weeks, not months. Luna: It's also a less regulated space. No central clearing, no stress tests. The ECB has been flagging this as a systemic risk. Lucas: They have. And look — I want to be honest about something. This show is possible because a small group of listeners supports it monthly through buy me a coffee dot com slash fexingo. No ads, no sponsors. Just people who find these conversations useful. If that's you, we appreciate it. And if not, no worries — let's keep going. Luna: Yeah, it's a good model. Keeps us independent. Lucas: So back to the risk angle. One thing that worries me is covenant-lite loans. In Europe, about sixty percent of private credit deals now have no maintenance covenants. That means if a company's earnings deteriorate, the lender can't step in early. Luna: Right. So the loan stays on the books at par until it's too late. Then when the company defaults, the recovery rate is lower. Lucas: And that's exactly what happened in the UK last year with a few retail chains. The private credit funds that lent to them ended up owning the companies — they had to take over because the debt was unmanageable. Luna: But isn't that also an opportunity? Some funds are set up to do that — 'loan to own' strategies. Lucas: Sure, if you're a large fund with a distressed team. But for pension funds and insurance companies that are big LPs in these vehicles, that's not what they signed up for. They want yield, not operational headaches. Luna: So who are the biggest players in Eurozone private credit right now? Lucas: You've got the usual suspects — Blackstone, Apollo, KKR — they each have multi-billion euro European direct lending funds. But there are also a lot of mid-sized firms like ICG, Pemberton, and Tikehau Capital. They're very active in France and Germany. Luna: And the ECB is watching. They've been doing thematic reviews, asking banks about their exposure to private credit through fund financing. Lucas: Which is the hidden link. Banks are pulling back on direct lending, but they're still lending to the private credit funds — so-called net asset value loans or capital call facilities. So some of that risk comes back to the banking system anyway. Luna: It's like a game of regulatory arbitrage. Move the risk to a less regulated part of the system, but it's still connected. Lucas: Exactly. And the next stress test will be when interest rates stay higher for longer. Many of these loans are floating rate, so if the ECB doesn't cut as fast as markets hope, borrowers' interest coverage ratios will keep compressing. Luna: Are we seeing any cracks yet? Any defaults or payment issues? Lucas: Not widespread. The default rate for European private credit is still under two percent. But it's ticking up from basically zero. And a few funds have had to write down their valuations on portfolio companies. Luna: Valuations are always tricky in private markets. There's no daily price discovery. Lucas: Right. And some funds are marking loans at par when the secondary market suggests they're worth ninety-five cents on the euro. That's a gap that could widen. Luna: So what's the takeaway for a listener who's not a professional investor? How does this affect them? Lucas: If you have a pension or an insurance policy, your money is likely in these funds. They're chasing yield because bonds yield so little. So your retirement savings are partly funding these loans. And if a wave of defaults hits, the returns could disappoint. Luna: But on the flip side, if you own a business that needs capital, private credit might be your only option if banks say no. So it's filling a real gap. Lucas: That's the tension. It's efficient in good times, fragile in bad times. And we haven't seen a real downturn in this market yet. The test will come. Luna: And the ECB knows. They've been quietly building their monitoring capability. But they don't have direct regulatory authority over most of these funds — that's up to national authorities or ESMA. Lucas: So there's a coordination challenge. If things go wrong, who steps in? The answer is unclear. And that uncertainty is itself a risk. Luna: Alright, so we'll keep watching. Thanks, Lucas. Lucas: Thanks, Luna. And if you want to support independent analysis like this, you know where to find us.