Pravi Prakash considers whether the best solution for both GPs and LPs may be a combination of both asset classes
For years, private equity was the golden child of private markets. Big returns, cheap debt and soaring valuations made it the obvious pick for institutional investors. It was all about double-digit IRRs and riding the wave of multiple expansion. But then rates climbed, exits stalled and distributions dried up. Suddenly, private credit – the quiet, dependable sibling — started getting all the attention.
It’s not hard to see why. As banks pulled back, direct lenders stepped in, offering speed, flexibility and certainty. In a world of higher rates, LPs rediscovered the charm of regular income and contractual yield. While buyout funds waited for the right exit window, credit funds just kept paying – quarter after quarter. For institutions juggling cash flow, that kind of reliability is gold.
But this boom in private credit isn’t just about income. It’s about a broader shift – a re-pricing of risk across the board. When money was cheap, leverage did the heavy lifting. Now, with capital costing more, efficiency matters again. A 12% unlevered yield from a senior loan suddenly looks pretty compelling next to a 20% equity IRR that depends on optimistic entry multiples and long hold periods.
Still, let’s not get carried away. Private credit isn’t without its cracks. Years of aggressive deal-making have left portfolios with covenant-lite structures and razor-thin spreads. And now, with refinancing walls approaching and rates still elevated, defaults are starting to tick up. The real test for credit managers is just beginning – not in how much yield they can promise, but in how well they can protect capital when things go south.
The old binary – loan or ownership – doesn’t quite fit anymore.
Pravi Prakash
After years of rapid growth and investor enthusiasm, the private credit market seems to now be facing mounting stress. Default rates are rising – Fitch reported a 7.8% trailing 12-month default rate in Q1 2025, with projections suggesting this could climb further.[1] The deterioration is most visible in sectors like autos and fintech, where complex capital structures and weak covenants have amplified risks. With nearly 40% of borrowers showing negative free cash flow and interest coverage ratios falling sharply, the cracks are no longer isolated. As the macro environment tightens, the opacity and leverage embedded in private credit structures are drawing increased scrutiny from regulators and allocators alike.
Meanwhile, private equity is in a bit of a reset. The days of easy multiple expansion are over. Now it’s back to basics: operational improvement, disciplined buying and long-term value creation. Yes, the current environment is tough for legacy portfolios, but it’s also ripe with opportunity. Valuations are more reasonable, competition is cooling and sellers are getting realistic. For savvy investors, this could be the best entry point in years.
What’s interesting is how the lines between credit and equity are blurring. PE firms are launching credit arms. Credit managers are dabbling in structured equity. Everyone’s chasing flexible capital solutions that sit somewhere between debt and equity. The old binary – loan or ownership – doesn’t quite fit anymore. It’s more like a spectrum of risk and control.
For LPs, this means rethinking how they allocate. The traditional silos – credit here, equity there – don’t work as well. Portfolios need to balance yield, growth and liquidity, often within the same deal. The winners will be those who can pivot as cycles shift – leaning into credit when rates are high and swinging back to equity when growth returns.
So, which will win the next cycle?
In the short run, private credit has the edge: stable income, defensive positioning and strong demand from borrowers who can’t get bank financing. But over the long haul, private equity still holds the crown for wealth creation. Equity gives you upside – the kind that compounds over time in ways credit just can’t match.
The truth? You need both. Credit brings resilience. Equity brings ambition. Most LPs aren’t picking sides – they’re building strategies that do both.
Because in private markets, it’s not about choosing a winner. It’s about staying flexible, staying patient and adapting as the cycle turns. That’s where the real alpha lives.
Pravi Prakash wrote this article in a personal capacity. All views and opinions expressed are solely those of the independent author and have no affiliation to any firm or organisation.
[1] Source: https://www.fitchratings.com/research/corporate-finance/us-private-credit-default-rate-rises-to-5-7-in-february-2025-20-03-2025