Moody’s Ratings has downgraded three direct lending funds managed by BlackRock, KKR and FS Investments, and Oaktree Capital Management.
The funds have seen their status reduced to ‘negative’ from ‘stable’.
The revisions reflect growing concerns about the ability of some borrowers to make debt payments in a higher interest rate environment. This is a particular concern this year, as a cohort of pandemic-vintaged loans are due to mature in the coming months, sparking speculation that the sector is approaching a refinancing cliff edge.
Read more: SMEs resilient in spite of higher debt costs, BOE finds
Earlier this year, Moody’s Investors Services warned that private credit returns could suffer from increased competition in the space. In a report titled ‘Escalating private credit competition will increase risk and scrutiny’, Moody’s suggested that the “golden era” of private credit returns could be over, as more players compete for the best deals and risk increases.
The three downgraded funds have a combined total of more than $20bn (£16.05bn) in assets. Each of these funds has recently increased the number of loans on non-accrual status, meaning that they are in danger of losing money on those investments.
While the funds have all retained their Baa3 rating – the lowest rung of investment grade – their newly ‘negative’ outlook represents the first time Moody’s has taken a bearish view on private credit since 2020. The ratings provider said the three publicly-traded funds are managing their liquidity positions well.
Read more: Competition intensifies between private credit and syndicated loans
According to Moody’s, a negative outlook means that a company faces the chance of a ratings downgrade in the medium term. This would potentially increase the cost at which they can borrow and could hurt returns.
FS KKR Capital Corp. and Oaktree Specialty Lending Corp. each saw the dollar amount of non-accrual loans double in the fourth quarter of last year, to 6.4 per cent and 4.5 per cent, respectively. This is well outside Moody’s median of about 0.4 per cent for similar funds.
BlackRock TCP Capital Corp. saw its non-accruals rise to 2.2 per cent from 1.2 per cent. Its largest non-accrual was a $47m loan to Thrasio, a seller of goods online, which filed for Chapter 11 bankruptcy in February. Thrasio also counts Bain Capital, Goldman Sachs, HPS Investment Partners and Monroe Capital among its lenders.
Moody’s noted that one problem loan can affect multiple funds simultaneously as direct lenders often spread the risk throughout several of their portfolios, including private ones.
Read more: Direct lending returns will “more than offset” higher defaults this year
