Private credit shakeout matching Covid losses coming, Morgan Stanley says
More pain is coming in private credit as defaults ramp up, creating “significant” risks, according to Morgan Stanley. The sector has been marked by turbulence as investors, concerned that artificial intelligence will disrupt software businesses, pulled money from private credit funds. That led to a spike in redemptions by private market and alternative asset managers. “In our view, AI disruption will be a meaningful catalyst to drive defaults higher in direct lending,” strategist Joyce Jiang said in a note Monday. “Overall, we expect the direct lending default rates to reach 8%, approaching Covid peak levels.” Fears about the effect of AI center around the idea that as the technology masters complex workflows, it will erode demand for software services — and hurt their lenders. As a result, software stocks have suffered as well as private money managers such as Blue Owl Capital and Blackstone . The former, which sold $1.4 billion of loan assets in February, has tumbled 41% year to date. Blackstone is down nearly 31% so far in 2026. OBDC YTD mountain Blue Owl Capital year to date Morgan Stanley estimates software exposure among direct lenders at 26%, based on the holdings of business development companies and 19% based on private credit collateralized loan obligations. “Despite moderating defaults and benign ratings trend, credit fundamentals of software loans are challenged with the highest leverage and the lowest coverage ratios across major sectors,” Jiang wrote. “Moreover, the maturity wall of software loans is more front-loaded, with 11% set to mature by YE27 and another 20% in 2028.” BX YTD mountain Blackstone year to date But Jiang doesn’t think the risks are systemic. In fact, she sees limited spillover to the broader market, since corporate balance sheets are largely healthy. Plus, the amount of leverage in private credit funds and BDCs is lower compared to earlier episodes of systemic challenges, like the global financial crisis, she said.
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