AI is boosting the stock market. But it's a threat to private credit

§ 01 Executive Snapshot

• What: Defaults in private credit are expected to rise significantly as AI impacts the sector.
• Who: Key players include UBS, Fitch Ratings, Salesforce, and various major investment firms like KKR and BlackRock.
• Why it matters: Increasing defaults in private credit could have spillover effects on broader financial markets, potentially impacting retail investors.

§ 02 Key Developments

• Fitch registered a record-high 6% annual default rate in April for private credit, with 10 default events that month.
• UBS strategist Matthew Mish forecasts private credit defaults to rise from approximately 4.4% to 9-10% due to AI's implications.
• Software accounts for 19% of assets in private credit collateralized loan obligations (CLOs), indicating significant exposure to the sector's performance.

§ 03 Strategic Context

• The private credit market has been experiencing increasing pressure due to rising inflation and interest rates, impacting loan collateral values.
• The entry of AI into enterprise applications poses a competitive threat to established software companies, further complicating the financial landscape.

§ 04 Strategic Implications

• Immediate consequences include heightened risks for private credit investors, potentially leading to liquidity issues and increased defaults.
• Long-term implications may involve greater scrutiny and regulatory focus on private credit markets as defaults rise and retail investors face potential losses.

§ 05 Risks & Constraints

• Potential regulatory scrutiny as the private credit sector faces increasing defaults, which could lead to tighter controls.
• The interconnectedness of private and public credit markets may create vulnerabilities, with retail investors not fully insulated from the fallout.

§ 06 Watchlist / Forward Signals

• Watch for significant withdrawal requests in June from interval funds, which may catalyze further market anxiety.
• Monitor the performance of software companies and how AI developments impact their growth prospects, as this will influence private credit collateral values.