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FRM Part II · FRM Exam Part II

The Rise and Risks of Private Credit for FRM Part II

Private credit is lending to companies by non-bank funds, such as direct lenders and business development companies, outside public bond markets and bank balance sheets. For the exam, know how it grew, who funds it, its leverage, valuation and liquidity risks, and its links to banks. Then match each risk to a control.

What this chapter covers

This chapter is part of the Current Issues in Financial Markets topic. It is based on a BIS paper from February 2025. It explains how private credit grew, how it differs from bank loans and public bonds, and where risks may build up.

You will study the market in layers. First comes size and growth. Then the comparison with banks and public markets. Then fund structures, investors and leverage. After that come the main risks: credit, valuation and illiquidity. Last come the system-wide view, bank links, and the policy and risk management response.

The chapter connects to the rest of the paper. Credit risk ideas such as default, loss given default and covenants apply directly. Liquidity topics apply to redemption terms and funding mismatches. Operational and investment management topics apply to valuation and governance. Questions are likely to be applied and case-like, so you should reason from a scenario rather than recall a list.

Current Issues readings change each year, and candidates often under-prepare them because they look like background reading. They are examined in the same 80-question format as the rest of the paper, so each question carries the same weight as a question from any other topic. This chapter is manageable in size and rewards clear reasoning about cause and effect: which feature creates which risk, and which control reduces it. If you learn the logic once, you can answer unfamiliar scenario questions with confidence. It also reinforces credit and liquidity risk ideas that you need elsewhere in the paper.

The Rise and Risks of Private Credit: topics in the order to study them

  1. 1Private Credit Market Overview and GrowthStart here to learn what private credit is, how large it has become and what drove its growth. Every later topic builds on this.
  2. 2Private Credit vs Banks and Public Debt MarketsComparing it with familiar bank loans and bonds makes the distinctive features clear: bespoke terms, direct lending, limited trading and less disclosure.
  3. 3Fund Structures, Investors and LeverageYou need to know who provides the money and how funds are built before you can judge where risk sits and how leverage amplifies it.
  4. 4Credit, Valuation and Illiquidity RisksWith structure understood, you can analyse the core risks: borrower weakness, model-based marks and the difficulty of exiting positions.
  5. 5Systemic Risk and Interconnectedness with BanksThis widens the view from single funds to the system, covering bank lending to funds and shared exposures. It relies on the risks you just learned.
  6. 6Risk Management and Regulatory ConsiderationsFinish with the responses: data, stress testing, governance and oversight. They only make sense once you know the risks they address.

How to prepare The Rise and Risks of Private Credit

Aim for understanding of cause and effect, not memorised lists. Most questions give a scenario and ask which risk, measure or response applies.

  1. Read the source material once at normal speed to get the story: growth, features, risks, policy response.
  2. Build a one-page map linking each feature of private credit (bespoke loans, leverage, infrequent valuation, bank financing) to the risk it creates.
  3. Write short comparisons of private credit with bank loans and public bonds on terms, liquidity, transparency and who bears losses.
  4. Practise reasoning through leverage: how borrowing at fund level magnifies losses, and how credit lines from banks create linkages.
  5. Work scenario questions on valuation and liquidity, such as stale marks or redemptions exceeding liquid assets, and state the risk and the control.
  6. Link the chapter to credit risk, liquidity risk and operational risk concepts elsewhere in the paper, so you can use the same vocabulary.
  7. In the last days, review your map and the revision list and re-read only the points you got wrong.

Common mistakes in The Rise and Risks of Private Credit

  • Treating private credit as a type of bank lending.

    Fix: Remember that funds are non-bank, are funded by investors rather than deposits, and face different run and leverage dynamics.

  • Assuming lack of market prices means lack of risk.

    Fix: Link infrequent, model-based valuation to stale marks and hidden volatility, and say the risk is measured poorly, not absent.

  • Ignoring leverage and where it sits.

    Fix: Separate borrower-level risk from fund-level leverage, and note that bank credit lines to funds are a channel for contagion.

  • Mixing up credit, valuation and liquidity risk in scenarios.

    Fix: Identify the trigger first: default or deterioration is credit, inaccurate marks are valuation, inability to sell or meet redemptions is liquidity.

  • Overstating the chapter's conclusions as certain systemic danger.

    Fix: Use the careful framing: risks may build, data gaps limit assessment, and oversight should be proportionate. Avoid absolute wording in answers.

  • Skipping the policy and risk management topic.

    Fix: Practise matching each risk to a control, since applied questions often ask for the most appropriate response.

Last-day revision: The Rise and Risks of Private Credit

  • Private credit is non-bank lending to firms, mostly negotiated directly, outside public bond markets.
  • Growth was helped by tighter bank regulation, investor demand for yield and borrower demand for tailored financing.
  • Loans are usually bespoke, held to maturity and rarely traded, so market prices are scarce.
  • Compared with banks, private credit funds do not take deposits, but they may use leverage and bank credit lines.
  • Compared with public bonds, private loans have less disclosure and less liquidity.
  • Leverage at fund level magnifies both returns and losses.
  • Valuation often relies on models and manager judgement, so marks can lag true conditions.
  • Illiquidity risk grows when investors can redeem faster than assets can be sold.
  • Credit risk can be hidden by weak covenants and by borrowers that refinance or defer interest.
  • Bank links include lending to funds and to private credit vehicles, which can transmit stress.
  • Limited data on exposures makes system-wide risk hard to measure.
  • Controls include stress testing, independent valuation, liquidity management, covenant monitoring and better data reporting.

The Rise and Risks of Private Credit practice questions

The Rise and Risks of Private Credit in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

The Rise and Risks of Private Credit: frequently asked questions

Where does this chapter sit in FRM Part II?

It belongs to Current Issues in Financial Markets, one of the six topics in Part II. The 2026 readings include private credit, based on a BIS paper from February 2025.

Do I need to memorise market size figures?

Focus on the trend and the reasons for growth rather than exact numbers. Questions are more likely to test reasoning about features and risks than recall of statistics.

How does this chapter link to other Part II topics?

It uses credit risk, liquidity risk, valuation and operational ideas. Revising those topics helps you answer scenario questions here.

How long should I spend on it?

It is a smaller chapter than core risk topics, so a few focused sessions can be enough. Spend more time on risk-to-control reasoning and practice questions than on first reading.