Private credit borrowers face renewed squeeze as rate-cut hopes fade

Private credit borrowers are facing a fresh test as renewed inflation pressure and the prospect of further interest-rate increases keep debt costs elevated across floating-rate loan books. The $2 trillion market, which benefited from rising yields after 2022, is now seeing greater strain among companies with thin margins, high leverage and limited ability to pass on costs, according to industry executives who spoke to CNBC.

The pressure comes as global central banks confront inflation risks linked to an energy squeeze from the Middle East conflict. In private credit, many loans reset with benchmark rates, so borrowers pay more when central banks raise rates or keep policy tight, while lenders receive higher coupons until credit quality begins to weaken.

Anant Kumar, managing director, global investment strategist, head of U.S. credit research and portfolio manager at Benefit Street Partners, told CNBC that many loans were made on the assumption that the 2022 and 2023 rate surge would prove temporary. “Three years later, borrowers are still paying near-peak coupons,” Kumar said. “In fact, the market is now pricing hikes, not cuts. Nobody underwrote for that.”

Inflation keeps pressure on loan structures

Core U.S. inflation, excluding food and energy, rose 2.9% from a year earlier in May, the highest reading since September 2025, and consensus forecasts cited by CNBC expect June’s figure to remain near that level when released Tuesday.

Minutes from the Federal Open Market Committee under chair Kevin Warsh showed policymakers split on the path for rates, with the Fed’s dot plot leaning toward one increase this year, according to CNBC.

Kumar said higher base rates can initially lift income for private credit investors, but prolonged elevated rates can strain weaker borrowers. “If rates go up from here, many levered companies won’t survive in their current capital structures. That doesn’t mean the businesses die. It means restructurings,” he told CNBC by email.

That stress is appearing through a sequence of loan adjustments, Kumar said: maturity extensions, payment-in-kind interest, equity contributions from sponsors and covenant relief. A single amendment can reflect the flexibility private credit lenders advertise, he said, while repeated changes to the same loan may indicate that losses are being postponed rather than avoided.

Payment-in-kind, or PIK, interest lets a borrower defer cash interest by adding it to the outstanding principal, usually at an added cost. The structure can preserve liquidity in the short term, but it increases the debt balance and can signal rising default risk if introduced after a loan has already been made.

Kumar cited Lincoln International data showing more than 10% of direct lending loans now include a PIK component, compared with 7% in late 2022. He said a PIK feature agreed at origination for a growth company differs from a cash-pay loan that later converts to PIK, calling rising PIK use a “smoke alarm” rather than an automatic panic signal.

Weaker credits face greater scrutiny

Sunaina Sinha Haldea, global head of private capital advisory at Raymond James, told CNBC that higher rates are not affecting all private credit borrowers in the same way, but are reducing the room for underwriting error.

“The issue is not floating-rate loans per se. The issue is floating-rate leverage on businesses that were underwritten for a different rate regime,” she said. She added that PIK, covenant relief and maturity extensions can help when they support a genuine recovery, but become risky if used to maintain valuations and delay recognizing losses.

Nicole Reid, research analyst for private markets solutions at Aberdeen Investments, told CNBC that stronger companies continue to perform, while weaker borrowers are facing more refinancing pressure. She said defensive, non-cyclical sectors with clearer cash-flow visibility are better placed to absorb sustained high rates.

Reid said lenders are paying closer attention to sectors where leverage and valuations rose during the low-rate period, including parts of software. In response, lenders have widened spreads, tightened underwriting and focused more closely on cash-flow durability, she said.

Kumar said the most exposed borrowers are those with narrow fixed-charge coverage, limited cushions and weak pricing power. He also identified real-estate-linked borrowers as especially rate-sensitive and said consumer companies serving lower-income customers face added strain.

Company size is not a complete guide to risk, Kumar said, because larger borrowers may carry more debt while smaller firms can be more flexible. He described the next 18 months as a test that could widen differences between lenders rather than produce uniform losses across private credit.

This story draws on original reporting from CNBC.