Private credit refers to loans negotiated directly between investors and borrowers, outside the public bond market.
You've probably seen headlines. Private credit has gone from a relatively small corner of institutional finance to a trillion-dollar global market. Pension funds, endowments, and — increasingly — everyday investors are paying attention. But what actually is private credit, and why has it grown so fast? Whether you're curious about how it fits into the broader investment landscape or wondering whether it belongs in your portfolio, this article breaks down how private credit works, what makes it different from public bonds, the risks involved, and who it might (and might not) make sense for.
What is private credit?
Private credit is any loan or debt instrument that isn't issued or traded on a public market. Instead of a company raising money by selling bonds, it borrows directly from a private lender — typically a fund managed by a specialised investment firm.
You might also hear the term "private debt," and the two are mostly interchangeable. Both describe the same basic idea: lending that happens privately, between a borrower and a lender, without a public market acting as the middleman.
The borrowers are often mid-sized companies that banks have pulled back from lending to — especially since post-2008 regulations made such lending less attractive – but that aren’t big enough to issue public bonds efficiently. They might need capital to fund an expansion, make an acquisition, or refinance existing debt, and private credit can offer more flexible terms than a bank loan. It’s not only small companies, though: even large borrowers increasingly choose private credit for its speed, privacy, and custom terms. The lenders, in turn, are looking for yields that are hard to find in traditional fixed income.
How does private credit work?
At its core, private credit works like any loan. A borrower needs money, a lender provides it, and the borrower pays interest until the loan is repaid. But the details — who's involved, how the terms are set, and how the interest rate behaves — look quite different from what you'd see in public markets.
Direct lending explained
Direct lending is the most common form of private credit. In a direct lending deal, a single fund (or a small group of lenders) negotiates a loan directly with a borrower. There's no investment bank arranging a syndicate, no public offering, and – unlike a public bond – no liquid public market where the debt trades, though a growing private secondary market does let lenders sell loans to other investors when they need to.
This matters because it gives both sides more flexibility. The borrower can negotiate customised terms — maybe a longer repayment period, a delayed principal payment, or specific covenants (contractual conditions on how the business operates) tailored to their business. The lender, meanwhile, gets to perform their own due diligence and structure the deal to match their risk appetite.
Here's a simplified example. Imagine a mid-sized Canadian manufacturing company needs $50 million to build a new facility. It could try to issue public bonds, but the process is expensive and time-consuming for a company of that size. Instead, it approaches a private credit fund, which reviews the company's financials, negotiates the terms, and provides the loan directly. The company gets its capital faster, and the fund earns a return that's typically higher than what public bonds would offer.
Floating rate structures
Most private credit loans use a floating interest rate — meaning the rate adjusts periodically based on a benchmark like the Canadian Overnight Repo Rate Average (CORRA) or the Secured Overnight Financing Rate (SOFR) in the U.S.
A typical private credit loan might be priced at CORRA plus 4% to 6%. If CORRA is sitting at 4%, the borrower pays roughly 8% to 10% in total interest. When rates rise, the lender earns more. When rates fall, the borrower pays less.
This floating rate structure is one of the reasons private credit attracted so much attention during the recent period of rising interest rates. Unlike a traditional bond with a fixed coupon, private credit loans automatically adjust — which means investors don't get stuck holding a low-yielding asset when rates climb.
Why private credit grew after the financial crisis
Private credit existed before 2008, but it was a relatively small market. The biggest driver of its growth was regulation — though it wasn't the only force at work.
After the Global Financial Crisis (GFC), regulators around the world tightened the rules on how much risk banks could take. The Basel III framework — a set of international banking standards — required banks to hold significantly more capital against their loan portfolios, and in the U.S., the Dodd-Frank Act added further constraints. The result was that banks, especially in the U.S. and Europe, pulled back from lending to mid-market companies. The loans were often still profitable, but they consumed too much regulatory capital to remain attractive on bank balance sheets.
That created an opening. Private credit funds, which aren't subject to the same banking regulations, stepped in to fill the gap. They had the capital, the appetite for risk, and the expertise to underwrite loans that banks no longer wanted on their books.
Regulation opened the door, but demand-side forces determined how quickly the room filled. The prolonged low-interest-rate environment after the crisis pushed institutional investors — pension funds, insurers, endowments — to seek higher yields outside traditional fixed income. At the same time, private equity sponsors wanted reliable, fast financing for their portfolio companies, and private credit offered speed and certainty of execution that bank syndication often couldn't match. Together, these forces turned a regulatory opening into one of the fastest-growing corners of global finance.
Types of private credit
Not all private credit is the same. Strategies vary in how much risk the lender takes on, which assets (if any) back the loan, and where the lender sits in line to get paid — all of which shape the potential return and the potential for losses. Here are the main strategies, roughly from most common to most specialized.
Direct lending
Direct lending is the core of the asset class. These are senior, usually secured loans made directly to mid-market — and increasingly larger — companies, frequently to finance private equity buyouts (known as sponsor-backed lending). The loans are typically floating-rate and first-lien, meaning the lender gets paid first if the borrower defaults. This is where the bulk of private credit capital sits, and it's the lowest-risk, lowest-yielding end of the spectrum — typically CORRA or SOFR plus 3% to 5%.
Mezzanine and subordinated debt
Mezzanine and subordinated debt sit lower in the capital structure — below senior loans but above equity. Because these lenders are paid only after senior creditors in a default, they demand higher yields, often through a mix of cash interest, PIK (payment-in-kind, where interest is added to the loan balance rather than paid in cash), and sometimes equity-like upside through warrants or conversion rights. Higher risk, higher return. This is commonly used in buyout transactions and growth-stage financings.
Distressed and special situations
This strategy involves lending to — or buying the debt of — companies already in financial trouble. Returns come from a turnaround, a restructuring, or even taking control of the business. It's the most opportunistic and most cyclical corner of private credit: it tends to do best when there's stress in the broader market, and it demands specialized skills in restructuring and recovery.
Asset-based lending (ABL)
Asset-based lending is credit secured by specific assets — receivables, inventory, equipment, or other collateral — rather than by the borrower's overall cash flow. That collateral provides a distinct layer of protection. This category has been growing quickly, including in consumer and hard-asset-backed lending.
Specialty finance
Specialty finance is a catch-all for niche lending against particular cash-flow streams or asset types — think royalty financing, litigation finance, equipment leasing, trade finance, or venture debt. These strategies are more idiosyncratic and tend to be less correlated with traditional corporate credit, which can make them useful for diversification.
How private credit yields compare to public bonds
One of the main reasons investors are drawn to private credit is the yield. Private credit loans have historically offered a meaningful premium over public bonds — but that premium comes with important trade-offs.
The clearest way to compare these is to look at the spread — the extra yield each offers over government bonds of a similar maturity. Government bond yields move with interest rates and economic conditions, so comparing spreads strips that common factor out and shows what investors are actually being paid for taking on credit risk. On that basis, investment-grade corporate bonds typically yield around 0.5% to 0.9% above government bonds, high-yield (sometimes called "junk") bonds around 4.0% to 6.7% above, and private credit loans around 5.0% to 10.0% above. These ranges roughly capture the most likely historical range; actual spreads can be much narrower or wider depending on market conditions, credit sentiment, liquidity, and where the economy sits in its cycle.
Part of that extra spread compensates investors for risk, and part for illiquidity. Private credit loans can't be sold on a public exchange, so if you need your money back before the loan matures, you may not be able to get it — or you might have to accept a significant discount.
The floating rate structure adds another layer. During periods of rising rates, private credit investors tend to benefit from higher income without having to sell and reinvest. Traditional fixed-rate bonds, on the other hand, lose value when rates rise.
How private credit returns actually work
A higher yield doesn't automatically translate into a higher return. It helps to think of the total return on a private credit loan as two parts:
Total return = interest income (yield) + any change in the loan's value
For a performing loan held to maturity, interim swings in market value ultimately wash out — the loan repays at par and the principal is returned — so total return ends up roughly equal to the interest income earned. Investors can still see gains or losses before maturity, though, particularly if a loan is sold early or if its credit quality or market conditions shift its valuation.
If a borrower defaults, the return is affected by both the drop in the loan's value and how much principal is eventually recovered through restructuring, asset sales, or other processes. Recovery rates vary by borrower, industry, capital structure, and collateral, but senior secured loans have historically recovered roughly 50% to 80% of principal.
The takeaway: over the long run, private credit returns are driven primarily by contractual interest income, reduced by credit losses net of recoveries. The key determinant of performance isn't month-to-month price or NAV volatility — it's the frequency and severity of defaults across the portfolio.
Risks of private credit
Private credit's higher yields come with risks that are fundamentally different from those in public markets. Many of these are common across private assets, and understanding them is essential before considering any allocation.
Illiquidity. This is the big one — but it helps to separate two different concepts that are easy to confuse: the liquidity of the underlying loans, and the liquidity of the fund you invest in.
At the loan level, private credit loans are generally made with the intention of being held to maturity. A secondary market has grown substantially in recent years, giving managers and institutions ways to sell portions of their portfolios early, but these transactions remain highly negotiated and bespoke. Sales can take time to arrange, pricing is less transparent than in public markets, and loans may have to be sold at a discount — particularly during periods of market stress.
At the fund level, liquidity is a separate question of how and when you can get your capital back. Traditionally, private credit funds have been closed-end or drawdown vehicles with no built-in liquidity: you commit capital for a multi-year period and wait for loans to mature, refinance, or be sold before money is returned. More recently, a newer category of funds offers limited periodic liquidity, designed mainly for high-net-worth individuals, allowing redemption requests on a regular basis. These rights aren't guaranteed: most funds cap redemptions (often around 5% of fund assets per quarter) and can suspend them in certain circumstances. Those limits exist to protect the investors who stay in the fund — without them, a manager could be forced to sell loans at steep discounts to meet redemptions, hurting everyone in the portfolio. In effect, the redemption mechanism is a practical compromise: more flexibility and access than a traditional fund, while preserving the long-term approach an inherently less-liquid asset class requires.
Credit risk and defaults. Private credit borrowers are typically mid-market companies that may not have investment-grade credit ratings. Some have high leverage, cyclical revenues, or limited operating histories, and when the economy slows, these businesses can struggle to service their debt. Default rates have historically been relatively modest — often in the low single digits — but they tend to rise during recessions. Because the loans aren't publicly traded, it can also be harder to assess the true health of the underlying borrowers until problems are already serious.
Leverage risk. Some private credit funds use leverage to enhance returns by borrowing capital and increasing their exposure to underlying loans. While leverage can boost income and overall returns when investments perform well, it can also amplify losses when loan performance deteriorates or market conditions weaken. In addition, leverage may increase a fund's sensitivity to changes in interest rates, credit spreads, and liquidity conditions, potentially leading to greater volatility and a higher risk of capital loss.
Lack of transparency. Public bonds come with regular financial disclosures, credit ratings from independent agencies, and real-time pricing. Private credit offers far less of this — investors typically rely on the fund manager's reporting, which varies in frequency and depth. Because the manager knows far more than the investor about each loan's health, investors need to place a high degree of trust in the manager's underwriting standards, monitoring, and willingness to flag problems early.
Valuation challenges. Because private credit loans don't trade on an exchange, there's no market price to reference. Instead, the value of each loan has to be estimated — a process that involves judgment about the borrower's creditworthiness and likely recovery in a default. In most cases, private credit funds rely on independent third-party valuation firms to determine the fair value of their loans, which adds objectivity and consistency to the process. Even so, this approach can create a smoother-looking return profile than what's happening underneath: a loan might be impaired, but its written-down value may not fully reflect the loss until much later. Investors should be cautious about comparing private credit returns directly to public bond returns without accounting for this.
Manager selection risk. The gap between strong and weak private credit managers is wide, and it shows up in underwriting discipline, the quality of borrowers a manager can access, and how well they manage problem loans and recoveries. Since you can't simply buy an "index" of private credit, choosing the right manager is one of the most important decisions an investor makes — and access to the best managers is often limited.
Higher fees. Private credit funds typically charge a management fee plus a performance fee that applies once returns clear a hurdle rate. These fees reduce your net return, and because much of private credit's return comes from contractual interest income rather than large capital gains, fees can take a meaningful bite out of what reaches the investor.
Private credit's higher yields come with risks that are fundamentally different from those in public markets. Understanding these risks is essential before considering any allocation.
How Canadians can access private credit
Private credit has become a meaningful part of how large, sophisticated investors build portfolios in Canada — and access for individual investors is gradually widening.
Canadian pension funds were early adopters. Organizations like the Canada Pension Plan Investment Board and major provincial pension plans have allocated billions to the asset class, drawn by the yield premium and diversification benefits, and today private markets make up a large share of their portfolios.
For individual investors, access has historically been limited. Most private credit has been available only to accredited investors — individuals who meet certain income or net-worth thresholds set by securities regulators — through fund managers offering products via evergreen funds (which allow periodic, rather than daily, redemptions), alternative mutual funds, and exempt-market offerings (investments sold under regulatory exemptions).
From a regulatory standpoint, the Ontario Securities Commission (OSC) and the Canadian Securities Administrators (CSA) oversee the distribution of alternative investment products, including private credit funds. Accredited investors and other exemptions allow eligible individuals to access products that aren't available to the general public, and the regulatory landscape continues to evolve as the market grows.
Who should consider private credit?
Private credit has historically been the domain of institutional investors — pension funds, sovereign wealth funds, endowments, and insurance companies. These investors have long time horizons, large pools of capital, and the ability to lock up money for years without needing liquidity.
In recent years, though, the landscape has shifted. Fund managers have launched products designed to give accredited and even retail investors access to private credit. In Canada, a growing number of offerings — including interval funds and alternative investment products — are available through financial platforms and advisors.
But access doesn't mean suitability. Private credit may make more sense for investors who:
Have a long time horizon: you won't need the invested capital for several years.
Can tolerate illiquidity: you're comfortable not being able to sell on short notice.
Understand the risk profile: you recognise that higher yields come with higher risk and less transparency.
Want portfolio diversification: you're looking for investments with return drivers that differ from those of traditional asset classes such as public equities and bonds, helping to diversify portfolio performance across different economic conditions.
It may be less appropriate for investors who need regular access to their funds, prefer the frequent disclosures and real-time pricing of public markets, or are relying on the capital for near-term goals.
It's also worth noting that fees in private credit tend to be higher than in public fixed income — management fees of 1% to 1.5% are common, and many funds charge performance fees on top of that. These costs eat into the net return, and they're worth factoring in when comparing private credit to more liquid alternatives.
The private credit market continues to grow, and the range of options available to Canadian investors is expanding. Whether that growth represents an opportunity or a risk depends on your circumstances, your goals, and how well you understand what you're buying. Above all, do your homework before committing capital to an asset class that doesn't give it back easily.
