The private credit sector’s significant involvement in propelling the artificial intelligence (AI) boom might have unintended consequences, potentially resulting in substantial losses if the market corrects sharply. This warning comes from a new report released by the Financial Stability Board (FSB), an international body that keeps an eye on financial regulators such as central banks across 24 nations. According to the report, industries like healthcare, services, and technology have emerged as the largest consumers of private credit, with AI companies increasingly relying on private lenders to finance essential infrastructure like data centers.
The AI sector, notably, has seen a significant increase in private credit reliance, making up over a third of these financial deals by 2025, a notable rise compared to just 17% in the previous five years. The FSB highlights that this concentration on particular sectors may expose private credit funds to unique risks and could amplify susceptibility to shocks specific to a region or industry. The board specifically notes that a rapid correction in asset valuations, which have surged quickly, might result in considerable credit losses for investors in private credit.
One of the critical concerns identified by the FSB is the potential for disruptions in the supply of electricity, a vital component for the construction and operation of data centers. Any significant shortfall could lead to project delays or cancellations, impacting AI company valuations. Additionally, if investments in data centers lead to an oversupply that surpasses the demand for AI, this could result in returns that fall short of investor expectations, further affecting valuations.
The FSB’s findings are part of a broader dialogue about the risks associated with loans facilitated by private credit firms. These firms operate outside the conventional banking system, relying on investor funds rather than customer deposits or deposit-backed loans. Concerns over these risky loans have already sparked a wave of withdrawals from private credit funds, prompting some to limit the amount clients can withdraw.
Proponents of private credit argue that these lenders are adept at managing risks and crafting customized loan solutions. However, the FSB points out that borrowers in the private credit market typically possess lower credit scores and higher debts compared to those seeking loans from traditional banks. Furthermore, traditional banks are increasingly entwined with the private credit sector, either by providing direct loans to private credit funds, financing riskier fund portfolios, or lending to businesses that simultaneously borrow from private credit firms. Banks are also increasingly collaborating with asset managers on private credit agreements, further intertwining the sectors.