The Cyclicality of Direct Lending
Abstract
In direct lending, nonbank financial institutions originate bilaterally negotiated loans to risky firms. We document that issuance in this segment of the private credit market is significantly less cyclical than in other high-yield corporate credit markets, such as syndicated lending, and show this results from firms substituting across credit markets. Rather than forgo debt financing, firms switch to direct lending when credit conditions in other credit markets tighten. During tight aggregate credit conditions, the substitution behavior is especially pronounced among sponsor-backed firms, whereas in normal times direct lending absorbs firms with deteriorating credit quality. Contrary to the concern that private credit could amplify credit supply shocks, our results indicate that private credit may dampen the corporate credit cycle.
Media Coverage: Financial Times Alphaville, Bloomberg (Money Stuff by Matt Levine), Larry's Substack, PitchBook Market Insights