Quick answer
What are the risks of private credit?
The main risks of private credit are borrower defaults, illiquidity (you may not be able to sell or redeem when you want), valuation risk (loans are marked by the manager, not by a market), leverage at both the borrower and fund level, payment-in-kind interest that is accrued rather than paid in cash, and high fees.
Key takeaways
- 01Proskauer's default index rose to 2.46% in Q4 2025.
- 02Many funds limit redemptions to about 5% of shares a quarter.
- 03Loans are marked by managers, so reported volatility can understate risk.
- 04Rising PIK interest means more income is accrued, not paid in cash.
| Q4 2025 default rate | 2.46% (Proskauer) |
|---|---|
| Q2 2025 | 1.76% |
| Liquidity | Quarterly, often capped |
| Valuation | Manager marks, not market prices |
| PIK | Interest added to principal |
| Regulator concern | Opacity and interconnection with banks |
The Short Answer
What are the risks of private credit?
The main risks of private credit are borrower defaults, illiquidity (you may not be able to sell or redeem when you want), valuation risk (loans are marked by the manager, not by a market), leverage at both the borrower and fund level, payment-in-kind interest that is accrued rather than paid in cash, and high fees.
Defaults are still moderate but rising: Proskauer's Private Credit Default Index rose from 1.76% in Q2 2025 to 2.46% in Q4 2025. Regulators including the Federal Reserve and the IMF have flagged limited transparency as the market's biggest unknown.
Defaults
Are private credit defaults rising?
Chart
Proskauer Private Credit Default Index, 2025
Default rates depend heavily on method. Some indexes count only payment defaults; others include covenant breaches or loss rates, so figures from different sources are not comparable. The trend across 2025, however, was upward.
Six Risks
What are the main risks of private credit funds?
Credit risk
Borrowers are often private equity-owned and leveraged. The IMF found more than a third had interest costs above current earnings in 2024.
Liquidity risk
Interval funds and non-traded BDCs repurchase only a set share of the fund each period. In a rush for the exits, requests are prorated.
Valuation risk
Loans rarely trade, so managers estimate their value. Smooth reported returns can hide losses until they are realized.
PIK interest
Income accrued as PIK raises reported yield without cash. A rising PIK share can signal stress.
Leverage
BDCs may borrow up to a 150% asset coverage limit, roughly 2:1 debt to equity, amplifying losses.
Fees
Management, incentive and servicing fees can absorb a large share of the gross yield.
Liquidity
Can you get your money out of a private credit fund?
Usually, but on the fund's schedule. An interval fund must offer to buy back 5–25% of its shares at each 3-, 6- or 12-month interval under SEC Rule 23c-3. Non-traded BDCs typically run quarterly tender offers that are discretionary and often capped near 5% of shares. If more investors ask to leave than the cap allows, everyone gets a pro rata share.
Calculator
How long to exit if redemptions are prorated
Enter your holding, the share of the fund offered each quarter, and the share of investors trying to redeem.
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Where Embark fits
Private credit pays you to accept gates and defaults. What would your own stock target in income?
Run your ticker to see the income a position could target with $0 tax at contribution.
- Starts with appreciated stock you already own instead of new cash for a credit fund
- §721 in-kind contribution: $0 tax at contribution, no sale to fund the allocation
- Targets 10%+ annual income; a target, not a guarantee, with a 3-year lock-up
Run the numbers
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Systemic View
Is private credit a systemic risk?
The Federal Reserve's 2025 note found banks are increasingly connected to private credit through loans to funds, which can transmit stress back to the banking system. The IMF's 2024 report concluded that risks look contained for now but are hard to assess, because data on borrowers, valuations and leverage are limited.
"The scarcity of available data has made it challenging to assess risks in this market. — Federal Reserve, FEDS Notes, 2024"
Due Diligence
What should you check before buying a private credit fund?
Do
- Read the fee table: management, incentive and servicing fees
- Check the share of income paid in kind (PIK)
- Look at non-accrual loans and the trend over several quarters
- Understand the repurchase policy and whether it is mandatory
Don't
- Compare headline distribution rates without subtracting fees
- Assume quarterly liquidity is guaranteed
- Put money you may need within 3 years into a fund with discretionary redemptions
Embark
Is there another route to income for stockholders?
Private credit pays for illiquidity and credit risk. For investors whose wealth is in one appreciated stock, Embark is a different route: it accepts the shares in kind into a §721 SPV, with $0 tax at contribution, and targets 10%+ annual income. Embark has its own risks, including a 3-year lock-up and exposure to the contributed stock; income is a target, not a guarantee. Accredited investors only.
FAQ
Frequently asked questions
What is the default rate on private credit?
Proskauer's index was 2.46% in Q4 2025, up from 1.84% in Q3 and 1.76% in Q2 2025. Other indexes use different methods.
Is private credit illiquid?
Yes, compared with public bonds. Funds that offer liquidity do so periodically and can prorate requests.
What is PIK interest?
Interest the borrower adds to the loan balance instead of paying in cash.
Why are private credit valuations a risk?
Loans rarely trade, so managers estimate their value, which can delay the recognition of losses.
How much leverage can a BDC use?
BDCs must keep 150% asset coverage, which allows roughly $2 of debt for every $1 of equity.
Is private credit a bubble?
Regulators have not called it one, but the Fed and IMF have flagged rapid growth, opacity and bank linkages as risks to watch.
Sources
Primary sources
Sources
- Proskauer Private Credit Default Index, Q4 2025
- Federal Reserve FEDS Notes (May 2025): Bank Lending to Private Credit: Size, Characteristics, and Financial Stability Implications
- Federal Reserve FEDS Notes (Feb 2024): Private Credit: Characteristics and Risks
- IMF Global Financial Stability Report, April 2024, Chapter 2: The Rise and Risks of Private Credit
- 17 CFR §270.23c-3: Repurchase of securities of closed-end companies (interval funds)
- 15 U.S. Code §80a-2(a)(48): Definition of a business development company
Cite this article
Embark Funds Research. “Private Credit Risks What the Yield Is Paying For.” Embark Funds, updated October 29, 2026. https://www.embarkfunds.com/insights/private-credit-risks
Not tax, legal or investment advice: This article is educational and is not tax, legal, investment or Medicare advice. Rules and dollar amounts change every year and depend on your facts. Work with a CPA or financial planner before acting. Embark income figures are targets, not guarantees. Contributed shares have a 3-year lock-up, and Embark is open to accredited investors only.
Private Credit & Alternative Income Series
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