Private credit crisis spreads, CLO market becomes the next risk explosion point

The turmoil in the private credit market has spread from BDCs (business development companies) to the broader credit ecosystem. While JPMorgan Chase CEO Jamie Dimon believes it does not yet constitute systemic risk, the latest research notes from Barclays and UBS reveal a neglected blind spot: the deep entanglement between private credit and the collateralized loan obligation (CLO) market.

As BDCs face large-scale redemptions, the valuation of private credit may be forced to shift from “model-based pricing” to “mark-to-market pricing,” and investors need to be alert to the net-asset-value impact caused by price declines in underlying assets (especially software/SaaS loans).

At the same time, the spreads on unsecured bonds issued by current BDCs have widened significantly, while the pricing of private credit CLOs has not fully reflected this reality. Barclays notes that BDCs are highly comparable to single-A (Single-A) CLO tranches; as software loan default rates rise, the CLO market is highly likely to become the next risk point to be detonated.

UBS warns that rising private credit defaults will sharply reduce leveraged loan and CLO issuance, and because there is substantial overlap among investors in the public and private credit markets, liquidity stress may quickly spread to the broader public credit market.

Crisis starting point: the BDC redemption wave and a crisis in valuation transparency

Over the past two months, assets related to private credit have been hit by selloffs.

Two private credit funds under Blue Owl—Technology Income Fund and Credit Income Corp—saw investor redemption requests of as much as 41% and 22%, respectively, leading multiple publicly listed private credit/BDC securities to hit record lows.

JPMorgan Chase CEO Jamie Dimon warned that, “private credit generally lacks transparency and also lacks rigorous valuation marks on loans,” resulting in the current level of realized losses being higher than what would be expected in a normal environment.

Dimon also cautioned that insurance regulators will eventually require stricter ratings or write-downs; once problems emerge, retail investors will turn to litigation.

From Pimco’s data, it is clear that publicly traded BDCs are trading at a significant discount relative to their net asset value (NAV), and the valuation gap between public markets and private markets continues to widen.

Despite this, Dimon also said that private credit “may not” pose systemic risk, because its size in the overall credit market is relatively limited—an assessment echoed by a previous Goldman Sachs report.

Barclays’ warning: CLO pricing is seriously out of sync with reality

However, Barclays’ research notes argue that Dimon’s view may overlook the deep linkages between the private credit market and derivatives markets such as CLOs.

Credit analyst Gavin Zhu of the firm noted that, compared with the heavy selloff in CLO assets backed by broadly syndicated loans (BSL), private credit CLOs have not shown a similar situation.

So far this year, price movements in private credit CLOs have been minimal: loans above par have fallen only from 42% to 39%, loans below 95 have risen only from 7% to 8%, and roughly 14% of loans are still not priced.

By comparison, in the U.S. BSL market, loans above par have plunged from 59% to 22%, and loans below 95 have risen only from 13% to 19%. Barclays believes that the current pricing of BDCs is already seriously out of sync with the realities of the CLO market.

The asset coverage test becomes a key constraint; single-A CLO is the best benchmark

To quantify the relative value of BDC unsecured bonds, Barclays built a systematic comparative analysis framework.

Barclays points out that since this year began, the spread on BDC unsecured bonds has widened by 80 basis points (bp) and is currently hovering around 260bp, lagging badly behind the investment-grade (IG) index (which has widened only 15bp to 92bp). To find an appropriate reference for relative value, Barclays turned its attention to CLOs.

Under the 1940 Act, BDCs are subject to strict regulation via an asset coverage test, which requires that their held assets cover at least 150% of their debt (i.e., a maximum leverage ratio of 2x).

If a default occurs, BDCs would be unable to issue new debt or pay dividends, and may even lose their status as a regulated investment company (RIC) and become a cash taxpayer. The average/median regulatory asset coverage ratio for investment-grade BDCs is 205%/191%.

Barclays estimates that to reach the 150% red line, the median decline in BDC asset value would need to be 21%. This attachment point is closest to the single-A (Single-A) tranche structure in a standard BSL CLO. Therefore, single-A CLO is the best benchmark for evaluating the relative value of BDC unsecured bonds.

Quantified impact from the selloff in software loans and relative value estimates

In response to the current markdown in software/SaaS assets triggered by AI disruption, Barclays conducted quantitative calculations.

Direct software risk exposure in U.S. BSL CLOs is about 11-13%, and total exposure is about 22%. In the current environment, assuming software loan prices fall by 1 point (with non-software loans falling by 0.2 points in tandem), the spread on single-A CLOs would widen by 4bp.

By comparison, BDCs have higher software exposure (about 20%). Barclays estimates that under the same shock, the spread on BDC unsecured bonds should widen by 4.8bp (about 20% more than CLOs).

The research notes state that, combined with actual market performance: recently, single-A CLO spreads widened by about 20bp to 195bp; whereas since January, BDC unsecured bonds have widened by nearly 75bp on a Z-spread basis to 270bp.

According to Barclays’ model, a 20bp widening in single-A implies that BDC should widen by 24bp. This means BDC unsecured bonds have underperformed single-A CLOs by about 50bp in meaningful terms. As investors look for the next weak spot in credit markets, their attention will inevitably shift to the CLO market, which has not yet been hit severely.

UBS: the transmission path of the private credit crisis to CLOs and the public market

In its latest report, UBS’ credit team provided systematic answers to seven key questions posed by clients, three of which directly relate to risks in CLOs and the broader market.

Question 1: What is the potential impact of rising private credit losses on structured finance markets?

UBS expects that in 2026, leveraged loan issuance will shrink by about 20% to $360 billion, and CLO issuance will fall from $208 billion for all of 2025 to about $150 billion. In a tail-risk scenario, leveraged loan issuance could decline by 50-75%, and CLO creation would further shrink to $100-110 billion.

On credit quality, UBS analysis shows that in U.S. and European leveraged loan portfolios, about 11-12% are in high AI-disruption risk industries with lower ratings, of which about 8% face the risk of being downgraded to CCC within the next two years. This would raise the CCC concentration in CLO portfolios, and that concentration is already at 4.5-5.5%, approaching the 7.5% cap.

On rating stability, S&P stress tests indicate that the loss threshold that would cause downgrades from the average BBB bucket is in the low single digits for leveraged loan CLOs, and in the high single digits for middle-market CLOs. UBS’ base/tail scenario loss forecasts are: 2.6%/6.75% for U.S. leveraged loans in 2026, and 7%/12.4% for private credit, implying a meaningful risk of rating downgrades over the next year.

Question 2: What are the spillover channels from private credit to public credit markets?

UBS identifies four main transmission channels:

• Investor overlap: insurance companies, foreign investors, and retail investors hold large positions across both private and public credit markets;
• BDCs hold syndicated loans: on average, BDC portfolios hold about 10% exposure to syndicated leveraged loans; once net redemption pressure emerges, these loans may be sold more aggressively;
• Valuation correlation: private credit is highly correlated with global leveraged loan valuations; the overlapping exposure (weighted by debt) between European leveraged loan portfolios and U.S. leveraged loan names is as high as about 50%;
• Issuance-model correlation: in the U.S. and Europe, leveraged loan issuance and U.S. high-yield bond issuance have historically shown a high degree of correlation.

Question 3: When private BDCs face redemption pressure, how will valuations evolve?

BDC accounts for one-third of private credit investment assets (about $500 billion, out of total scale of about $1.5 trillion). Of these, two-thirds of BDCs are private, non-traded vehicles, which carry the primary redemption risk.

UBS believes that once redemption pressure begins to hit BDC liquidity, private credit valuations will shift from the “model marking” framework to a more traditional “market marking” approach. Historically, B3/B- loans traded down to around $90 during the 2022-23 Fed tightening cycle, temporarily to around $80 during the COVID-19 pandemic, to the mid-$80s during the high-yield shale oil crisis, and to the mid-$50s during the financial crisis.

UBS believes these historical data points can serve as a reference range for how market marking pricing might evolve for private credit portfolios.

CLOs are the next domino in the private credit crisis

Putting together Barclays’ and UBS’ analyses, the logic chain is already clear:

Layer 1: AI-disruption risk for software/SaaS companies continues to erode BDC asset quality; spreads on BDC unsecured bonds widen sharply, and redemption pressure rises rapidly;

Layer 2: There is a deep structural linkage between BDCs and CLOs, but for now the pricing of private credit CLOs has barely reflected any stress—this valuation gap will ultimately narrow;

Layer 3: Once CLO pricing moves closer to reality, it will trigger a chain reaction such as downgrades of CCC ratings, stress in OC tests, and contraction in CLO issuance volumes, and then transmit to the broader public credit market through channels such as investor overlap and valuation correlation.

As Barclays points out, when investors look for the next weak spot in the credit market, their focus will inevitably turn to CLOs—yet this market has, so far, been almost untouched by the BDC collapse.

UBS further warns that if AI disruption to the software industry continues to deepen, combined with a broader economic slowdown, the private credit crisis will not only worsen further, but will also spread across the entire public credit market by using CLOs as a springboard.

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