Private credit has evolved from a niche alternative to a mainstream market. A decade ago, it was a relatively small allocation for most institutions; today, it sits alongside private equity, real estate, and hedge funds as a core building block of their portfolios. As capital has flowed into the space, the conversation has shifted from “here’s an interesting opportunity” to questions about systemic risk and whether default potential is higher than investors were led to believe.
Much of the caution stems from treating private credit as a single category, which we believe is a mistake. Whom you lend to (company size and profile) and how you lend (underwriting discipline, structure, and diversification) can produce very different risk/return outcomes. That distinction sits at the core of FEG’s private lending philosophy.
A pioneer in using private credit within diversified institutional fixed income portfolios for nearly two decades, FEG has deliberately focused on lenders specializing in LMM and CMM companies, while consciously avoiding the UMM. This is a structural preference, not a tactical response to today’s headlines.
When investors express concern about private credit, they often overlook smaller businesses. A company with $20 million of earnings before interest, taxes, depreciation, and amortization (EBITDA) borrowing from one or two lenders generally does not pose a systemic risk. Investors’ concerns today are centered on large, sponsor-backed buyouts financed by giant direct lending funds, covenant-lite structures, and highly leveraged capital stacks—debt that historically could have been placed in the broadly syndicated loan or high-yield bond markets instead.
In practice, there are three distinct private credit ecosystems: LMM borrowers, with roughly $7.5 million to $30 million of EBITDA; CMM borrowers, with around $30 million to $50 million of EBITDA; and UMM borrowers, with $50 million to $100 million of EBITDA or more. In the LMM/CMM, lending is more often bilateral or done in small clubs. Relationships with private equity sponsors and management teams matter, documentation is negotiated, covenants are meaningful, and access to public markets is limited. In the UMM, borrowers frequently have access to both private and public credit markets, and the “winner” among lenders is often the one that offers the cheapest capital and the most flexible terms.
FEG prefers its private credit managers to operate in areas where capital is less commoditized, underwriting still matters, and structure remains a genuine risk mitigant rather than an afterthought. In other words, we prefer the LMM/CMM.
Private credit compensates investors for credit risk, illiquidity, and complexity. The LMM and CMM can also offer a higher and more durable risk premium than the UMM for several reasons, with manager selection crucial to success. Limited access to public credit markets gives LMM/CMM lenders more leverage in negotiating pricing and structure. Underwriting smaller, less standardized businesses is also more demanding, and the time-intensive nature of smaller-ticket deals can limit the number of lenders willing to compete in this segment. Finally, because LMM/CMM loans are typically buy-and-hold and not broadly syndicated, the illiquidity premium is less likely to be competed away.
The result has been persistently higher all-in yields in the LMM/CMM than in the UMM, often alongside lower leverage and tighter documentation. FEG’s preferred lenders are not chasing yield by compromising quality; instead, we seek to harvest a less crowded credit risk premium, where the challenges are analytical and operational rather than rooted in weaker lender protections.
Underwriting standards are another point of divergence. In the LMM/CMM, our lenders still insist on attributes that made traditional bank middle market lending resilient for decades. A typical senior or unitranche deal may include two to three financial maintenance covenants, such as maximum total (and/or first-lien) leverage and minimum interest or fixed-charge coverage. These covenants serve as early warning signals, enabling lenders to intervene before a problem escalates into a crisis.
In the UMM, sponsors can credibly threaten to move a deal to the syndicated loan or high-yield markets if direct lenders push too hard on covenants or structure. To win marquee mandates, some lenders have accepted higher leverage, looser covenants, and more borrower-friendly documentation. Deals increasingly resemble their public counterparts, but without the public trading venue. In that environment, maintaining lender discipline can be more challenging. We prefer markets where negotiation can still produce robust protections—and where “walk away” is not the primary tool for preserving underwriting standards.
Real credit risk becomes apparent in challenging environments. In those moments, the complexity of capital structure and alignment among creditors matter. LMM/CMM deals are often simpler, typically involving a single unitranche or a first-lien/second-lien stack with a small lender group, allowing for quicker decisions and more aligned interests. UMM transactions often involve multiple tranches and larger syndicates, which can make restructurings slower and more contentious.
At the same time, concerns about private credit are increasingly macro: could fund-level leverage, opaque valuations, and concentrated exposures in large borrowers amplify the next downturn? By focusing on the LMM/CMM, we believe we address several of these issues by design: reduced overlap with public credit indices, increased idiosyncratic and decreased systemic risk, and greater scope to select conservative managers.
In practice, our focus on LMM/CMM and avoidance of the UMM translates into three key portfolio characteristics: a return profile seeking higher coupons and wider spreads with more conservative leverage and stronger protections; a risk profile built on diversification across many smaller borrowers, supported by strong documentation and active engagement; and a role within the broader allocation as both a core income engine and a diversifier relative to public credit markets.
The story of private credit is no longer just about growth; it is about differentiation. As capital has flowed into the space, the generic trade—“lend to sponsor-backed companies at a spread over base rates”—has become increasingly crowded, especially in the UMM.
FEG’s approach has been consistent and intentional: focusing on areas where capital is scarcer, structures are stronger, and credit underwriting still earns a premium. By staying in the LMM/CMM and deliberately avoiding the UMM, we believe we are aligning portfolios with higher and more durable credit risk premiums, positioning clients away from the parts of private credit that may likely be at the center of future systemic concerns.
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