Private credit has been gaining traction among investors looking to broaden their portfolios beyond traditional stocks and bonds. Once reserved for institutional investors and ultra-high-net-worth individuals, this asset class is now more accessible to a broader audience, thanks to evolving fund structures and emerging investment platforms. But what is private credit, and how does it fit into a thoughtful, diversified portfolio?
What Is Private Credit?
Private credit refers to lending that occurs outside of the traditional banking system. These loans are not publicly traded like corporate or government bonds. Instead, they’re privately negotiated between investors and borrowers, which are typically businesses that need capital for growth, expansion, or financial recovery. There are several types of private credit strategies, including:
- Direct Lending: Loans made to mid-sized companies, often to support operations or growth when bank financing isn’t a fit.
- Mezzanine Financing: A hybrid of debt and equity used in later-stage growth or acquisition deals. These sit below senior debt in the capital structure and carry higher risk and return potential.
- Distressed Debt: Loans to financially troubled companies, where investors may be betting on a turnaround or seeking influence in restructuring processes.
These categories reflect a wide range of investment objectives and risk levels, but all offer exposure to the private lending market.
Why Investors Consider Private Credit
One of the main reasons investors consider private credit is the potential for higher yields. Because these loans are less liquid and carry more risk than traditional fixed-income investments, they tend to offer a premium in return. Many direct lending structures also feature floating interest rates, which can serve as a hedge against inflation, an increasingly relevant factor in today’s environment.
Beyond yield, private credit can play a valuable role in diversifying a portfolio. Since it often has a low correlation with public equities and bonds, it may behave differently during times of market stress. That’s especially appealing for pre-retirees or retirees seeking reliable income streams without overexposure to market volatility. These strategies aren’t meant to replace traditional investments. It works best as a complementary piece within a broader strategy, offering targeted exposure to private markets while balancing liquidity and risk across the entire portfolio.
Risks and Considerations
As with any investment, private credit comes with trade-offs. The most notable is liquidity. These investments typically require multi-year commitments, and exiting early can be difficult or impossible. Investors should be comfortable tying up capital for a significant period.
Also, because private credit isn’t publicly traded, valuations can be less transparent. This makes it harder to assess the true value of the investment at any given time. Market cycle sensitivity is another factor to consider. During economic downturns, borrowers may struggle to repay their loans, causing default rates to rise. This may impact returns, especially if the underlying loans are to individuals or smaller businesses without robust financial backing.
Historically, private credit was largely limited to large institutions and family offices. The private credit landscape has evolved to offer more options for individual investors. Through the use of interval funds, business development companies, and advisor-led platforms, it’s becoming easier to gain exposure to this asset class in a more accessible and regulated way. As always, due diligence is essential. Investors need to understand the structure of any fund, the quality of the underlying loans, and the reputation of the managers involved.
Key Takeaways
Private credit is emerging as a valuable tool for investors looking to enhance income and diversify beyond traditional investments. Its appeal lies in higher yield potential and low market correlation, offering a unique opportunity to enhance income and diversify away from public markets for qualified investors. While this asset class comes with meaningful trade-offs—like liquidity constraints and opaque valuations—it may serve as a valuable complement to a well-constructed portfolio. The key is understanding the structure, setting clear expectations, and making it part of a strategy that aligns with your broader financial goals.
Taking the Next Step Toward Informed Investing
Private credit can be a compelling way to boost income and add diversification beyond traditional markets. Like any investment, it requires a clear understanding. Knowing how it fits into your broader financial goals is essential.
If you’re curious about private credit or how alternative investments might complement your retirement strategy, our Know Before You Invest: Understanding Alternative Investments workshop is a great next step. Hosted by Dr. Alex Murguia, this series breaks down private credit, private equity, hedge fund strategies, and real assets in a way that is clear, approachable, and grounded in research.
To explore this topic further and build the knowledge you need to invest with confidence, the Retirement Researcher Academy offers workshops, tools, and expert guidance tailored to your retirement journey.
Want to learn more? Listen to Ep. 180 of the Retire With Style Podcast.
