Why the Bank of England thinks private credit is like lemons and sausages
Bank of England deputy governor Sarah Breeden, speaking at the FT’s Private Credit Connect conference, compared the problems within private credit to “lemons” and “sausages”
For those wondering what’s on the Bank of England’s agenda right now, I have two words for you: ‘lemons’ and ‘sausages’.
This is how deputy governor of the Bank of England Sarah Breeden recently described the problems within private credit.
At the FT’s Private Credit Connect conference last week Breeden said the issue with certain private credit assets – the ‘lemons’ – is that you can’t always tell the difference between a good investment and a bad investment.
On the flip side are the ‘sausages’ of private credit — investments that seem good initially but turn out to be worse than they appeared (and leave you with a nasty case of food poisoning).
It remains to be seen whether the recent credit defaults in the US point to underlying systemic issues within the industry. Allison Davi, co-chief operating officer and head of business development at Benefit Street Partners, said there was not a “systemic underwriting problem” in the private credit space.
She added the recent defaults were notable because they were all in the asset-backed space and involved an element of fraud, suggesting an element of idiosyncrasy.
But Breeden warned: “It’s always the case that the idiosyncratic cases come out first”.
To combat any uncertainty in this area, the Bank of England is conducting a voluntary stress test with a host of alternative asset managers, institutional investors and banks. This will assess the macroeconomic stresses linked to private credit, the losses they create and how those losses cascade throughout the industry.
Confirmed participants for the test include the £54.8bn Pension Insurance Corporation, University of Cambridge Investment Management, Fidelity International, Brightwell Pensions and the £17.7bn BAE Systems Pension Scheme.
A spokesperson for the BAE Systems Pension Scheme told AOX it was taking part to “assist in a public interest project” and not because it hoped to gain anything from it or because it had concerns about the private credit market.
Another spokesperson from Brightwell added: “We see this exercise as a useful way to better understand the Bank’s areas of focus, challenge our own assumptions and contribute insights from our long‑standing experience in private markets.”
A final report from the simulated stress test is due to be published in 2027. With any luck, that’s before an actual credit crisis has come to fruition.