FRM Part II · FRM Exam Part II · The Rise and Risks of Private Credit
A mid-sized manufacturer needs a USD 150 million loan with bespoke covenants, a delayed-draw feature and a closing timeline of five weeks. Its credit quality is below investment grade, and it would prefer to negotiate directly with a small group of lenders. Which feature of private credit most directly explains why a direct lender may suit this borrower better than the broadly syndicated loan or high-yield bond market?
Direct lending suits this borrower because a small group of lenders can negotiate bespoke covenants, delayed-draw features and fast closing. Broadly syndicated loans and bonds need standardised documents and wider distribution, so they are less flexible. Private credit also carries an illiquidity premium and is not traded daily.
- APrivate credit loans are priced off a public benchmark with no illiquidity premium
- BDirect lending allows tailored terms and speed through negotiation with a few lendersCorrect
- CPrivate credit lenders are subject to the same risk-based capital rules as deposit-taking banks
- DPrivate credit loans are continuously marked to market with daily trading liquidity
Explanation
Direct lenders hold loans in concentrated positions and negotiate bilaterally, enabling customised covenants, delayed-draw structures and quick execution. Public markets require standardised documentation, ratings and wider distribution. Private credit generally carries an illiquidity premium and is not daily traded, and non-bank lenders are not bound by bank capital rules.
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