Moody’s pointed out that private credit funds have built up a large amount of dry powder that needs to be put to work – following lower leveraged buyout (LBO) activity over the last two years. The report puts direct lender dry powder at $214 billion.

They see private credit funds and banks competing more aggressively to win business. This leveraged finance (LevFin) business is historically a high fee and large scale activity for banks.

Moody’s warned that a “race to the bottom” may result in lower pricing, weaker structures and terms, and lower credit quality – together in turn increasing systemic risk in the financial system.

There is a risk that bad credits materialize together – affecting banks, private credit funds and broad economic lending simultaneously. Managers with strong origination, underwriting and risk pricing may find themselves able to differentiate their funds in this scenario. Such an event could also see increased regulation on the sector – as we saw for the securitization sector following 2008.