The 1.8 trillion private credit market is facing a wave of redemptions! Giant BlackRock is the first to "shut the gate"

The world's largest alternative asset management company is facing a painful choice - either to prevent investors from exiting private debt funds and deal with potential backlash, or to meet redemption requests and deviate from its core principles. For months, executives in the private credit industry have sensed that a moment of reckoning is near. A series of high-profile default events have shaken investor confidence. Market anxiety over the large exposure of private credit to software companies vulnerable to artificial intelligence (AI) disruptions is intensifying. Meanwhile, retail investors who have been courted by fund companies for years are starting to withdraw investments from the industry's largest funds, putting pressure on the redemption limits meant to prevent forced sales of loan assets. In response, BlackRock, Inc. drew a line. The company announced last Friday that it would limit redemptions from its $26 billion HPS Corporate Lending Fund to 5%, while redemption requests prior to this announcement had almost reached double that limit. This was the first time a large private credit manager had imposed redemption limits on a perpetual fund since market tensions began. For an industry that has swelled to $1.8 trillion and is poised to enter the U.S. 401(k) retirement account market, this step is unsettling. It could trigger a backlash from retail investors who are increasingly anxious to retrieve funds. At the same time, it also confirms long-standing warnings from industry skeptics - that selling illiquid assets to easily-panicked clients poses risks. However, many industry executives have privately expressed that they had been hoping for industry giants like BlackRock, Inc. to take the lead on this measure, providing a "cover" for other companies. They believe the risks of an alternative choice - meeting all redemption requests - could have far-reaching consequences beyond the current quarter, not only crowding out capital for new trades but also harming the interests of long-term investors and setting expectations the funds were never intended to meet. John Zito, an executive at Apollo Global Management Inc., said in an interview, "The actions of HPS and BlackRock, Inc. were the right decisions." He added that the "design intent of these products is to protect the interests of redemption and retaining investors by matching the liquidity of the tool with the liquidity of the underlying asset." Redemption requests for non-traded BDCs have exceeded the 5% limit It is still uncertain whether other companies will follow suit. According to estimates by Barclays, over the next few weeks, funds with assets under management exceeding $100 billion will announce first-quarter redemption requests and their corresponding resolutions. Similar to hedge funds investing in hard-to-trade assets, loans provided by private credit firms often cannot be sold quickly. To avoid forced sales at low prices during investor panics, most funds targeting retail investors have structural restrictions - allowing redemptions of up to 5% of fund net assets per quarter. However, this limit is not strictly enforced. In recent months, some managers have allowed redemptions exceeding this percentage while emphasizing the overall health and high returns of their investment portfolios. They hope this flexibility can ease investor anxiety. But this practice has also sparked controversy, with concerns that short-term image concerns may outweigh long-term discipline, ultimately rewarding investors who exit first. Some industry executives even oppose referring to redemption limits as "gates," as this percentage is written into the fund structure. Failure to enforce it weakens that argument. John Cork, Vice Chief Investment Officer of Corbin Capital Partners, said, "You can't create liquidity from illiquid asset classes." He stated that not enforcing redemption limits would "create a first-mover advantage for early redeemers and trap the remaining investors in a prisoner's dilemma." Blackstone's "highly strategic" move Blackstone took an unprecedented approach, allowing investors to redeem funds while also showing confidence in the private credit recovery. Last week, the company allowed investors to redeem a record 7.9% of shares from its flagship $82 billion private credit fund BCRED. To meet the demand, the company used around $150 million from personal investments of over 25 senior managers and about $250 million of its own funds. Insiders say that Blackstone had prepared for redemption requests exceeding 5% since last quarter, including from BCRED. When making decisions, the management referred to net cash flows and liquidity and quickly concluded that both were healthy enough to allow full redemptions. This move not only broke the standard 5% quarterly redemption limit, but also exceeded the usual additional 2% buffer considered acceptable. Previously, Blue Owl Capital allowed investors to redeem over 15% of net assets from its tech-themed fund in the fourth quarter of last year. Michael Porzio, founder of PCM Encore, called Blackstone's decision a "highly strategic long-term move" in the current highly anxious environment. He said, "Allowing full redemptions and injecting large amounts of money from employees has created a strong confidence in the market." The window is closing Across the industry, managers of so-called non-traded Business Development Companies (BDCs) are facing similar pressures. Last quarter, funds under Ares Management met about 5.6% of redemption requests, one of the earliest cases to slightly exceed the tender offer size. Many funds, including large BDCs managed by Apollo Global Management Inc., Ares Management, and Blue Owl Capital, are still in the first quarter redemption window, as investors actively decide whether to redeem. Most funds are still attracting new capital, but inflows have been lower than outflows. If more of these so-called "semi-liquid" funds face large redemption requests, they will be faced with two unideal choices. Zain Buhar, Vice President of Market Intelligence Risk and Valuation at S&P Global, said that preventing redemptions "often damages customer relationships and may lead to further redemptions from investors who were not initially planning to exit, as they interpret it as a distress signal." But allowing capital outflows in a weak market goes against the beliefs of many private asset investors. Mike Patterson, Co-Founder and Co-President of HPS, said in a video to investors that limiting redemptions "allows us to optimize investment performance since we only need to deal with predictable liquidity demands." He said, "You never want to be forced to sell illiquid assets for short-term capital needs." He added that this decision allows the fund to have sufficient ammunition in "a market we believe is becoming increasingly attractive." Critical moment The accelerating wave of redemptions poses a critical moment for the private credit industry. As inflows from large institutional funds such as pension funds and sovereign wealth funds slow, fund companies are actively targeting high net worth individual clients. They are marketing products to financial advisors and even partnering with professional athletes to promote their brands. Supporters of the private market are also working to gain support from U.S. policymakers, coming close to achieving their biggest victory yet. Last year, U.S. President Trump signed an executive order making it easier for alternative assets such as private credit and private equity to enter 401(k) retirement plans, as part of a broader reform that allows these assets to access trillions of dollars in retirement funds. The U.S. Department of Labor is expected to release guidance soon, essentially giving the green light for 401(k) managers to invest in alternative assets. Meanwhile, the market is increasingly focusing on the growing connection between retail investors and private credit. Non-traded BDC structures are one of their primary ways of investing in this market. Through financial advisors, retail investors can typically invest monthly and redeem quarterly at 100% of net asset value. The minimum investment can be as low as $2,500. The pain in the public market Another type of BDCs are listed on major stock exchanges, allowing any investor to purchase them. These products have different structures and do not face redemption pressure, but recent volatility is hard to ignore. These funds have recently seen multiple dividend cuts and more investments listed as "non-accrual assets" - loans that have begun to show problems. Because these funds trade on the public market, market reactions are swift and direct. Several listed BDCs' share prices have reached all-time lows, significantly below their net asset value, including a fund that existed before BlackRock's acquisition of HPS Investment Partners last year. BlackRock's TCP Capital Corp. closed at $3.82 per share last week, reaching a historic low, with a more than 50% drop in price from a year ago. Some signals from investors suggest that relief may be difficult in the short term. Bearish bets against Blue Owl Capital hit a record high last week, even though its stock price already saw the largest monthly decline on record in February. Credit crunch Amid a time filled with phrases like "the largest in history," it is not surprising that non-traded BDC investors are eager to redeem their investments. The market had previously anticipated that retail investors would withdraw from some private credit investments as falling interest rates suppress yields. But credit risk has made this trend more urgent. According to data from Fitch Ratings, the U.S. private credit default rate rose to 5.8% in the 12 months ending January, the highest since the agency began tracking it in August 2024. Some analysts have gone further, attempting to estimate the impact of AI disruptions on software companies - the results are quite pessimistic. Given the exposure of private credit to this industry, a report by UBS Group AG strategist Matthew Mish and others suggests that in a worst-case scenario, private loan default rates could reach 15%. However, this prediction was strongly rebutted by Ares Management CEO Michael Arougheti, who called the report "irresponsible." For supporters of limiting redemptions, both realized and potential credit losses are among the most compelling reasons for other BDCs to emulate HPS' approach. They believe that the purpose of this mechanism is to prevent a vicious cycle - funds being forced to sell assets at low prices to meet redemptions, thereby hurting remaining investors and further triggering redemptions. In 2022, Blackstone implemented redemption limits for a similar structure real estate fund under pressure, and later secured a $4 billion investment commitment from the University of California, helping restore market confidence. Implementing redemption limits can also provide a breathing space for funds to continue operating as originally designed - using new capital to make new loans. Managers can invest new funds in more attractive investments rather than using them to pay off exiting investors. Vivek Bantwal, Co-Head of Private Credit at Goldman Sachs Asset Management, said, "Redemption limits are a feature, not a flaw." Speaking on the same stage as Brad Marshall, Co-CEO of BCRED, he expressed the same views the day after the fund disclosed record redemptions. However, for investors, amidst market discussions about a potentially prolonged painful period for private credit for 18 months, arguments about limiting redemptions may seem pale - especially if financial advisors have not fully explained what redemption limits mean during credit pressure periods. Nonetheless, specialized investment bank Robert A. Stanger & Co., which has been tracking the BDC industry, believes that BlackRock's decision is a turning point. Managing Director Michael Corallo said, "Now that HPS has done it, we expect others to follow suit." At least in the eyes of Wall Street senior analysts, they have little sympathy for ordinary investors' panic in the private credit market. Evercore ISI analysts said last week, "Semi-liquid funds are designed and marketed to provide limited liquidity in times of stress. The important thing now is to re-educate investors to understand the nature of private assets."