“An ounce of prevention is worth a pound of cure” – Benjamin Franklin
Private credit has emerged as a preferred entry point for integrating private assets into client portfolios, offering the potential for higher yields and reduced volatility when compared to public high-yield bonds. As short-term interest rates decline, many Advisors’ allocations are reallocating from liquid, short duration public fixed income into private credit.
But while the stated yield and volatility profiles of private credit fund investments can appear attractive, it is still fixed income at its core—carrying the same fundamental risks as public credit (interest rate, credit and default risk) plus additional unique risks to the space. These include relatively higher adverse manager selection and elevated liquidity risks.
In this rapidly evolving environment, due diligence becomes ever more important, as credit markets over the past four years were favorable for allocators. Times of stress, which most allocators have yet to experience, are the true test of fixed income resilience.
Making the Case
The headline message – “private credit yields ~10% with lower volatility than traditional high yield” – is woefully misleading for diligent investors. That framing oversimplifies and often fails across different market and credit cycles. Advisors must look beyond the sales pitch and assess whether the trade-off between liquidity and yield is justified within a client’s tax and asset allocation framework.
Table Stakes – Before any client allocation to private markets—credit or equity—three key elements must be understood:
- Fund Structure – There are key operational and structural differences between Interval and Tender Offer funds. Advisors first need to know the general differences—execution, required documentation, redemption/gating provisions, accreditation requirements, investment valuation policies, fund leverage policies and disclosed fees (management fees, cost of leverage and incentive structures and fees)—before allocating. Compared to public markets, investors face limited opportunities to dollar cost average, fully rebalance allocations or manage the amount and timing of redemptions.
- Asset Location – Taxes – After-tax expected net returns, particularly in taxable accounts subject to any performance fees, may be inferior to public alternatives, such as municipal bonds. Additionally, the ability to recycle or return capital may be an important part of a manager’s success or strategy but can trigger significant tax liabilities and implications for taxable accounts.
- Expectations for Performance – We recently discussed the stark differences between public and private investment performance and the importance of understanding the sources and characteristic differences, such as return smoothing. We reiterate that benchmark comparisons against public credit markets are critical. Direct lending—the largest component of private credit—is comparable to public leveraged lending, where the average returns appear similar, but performance dispersions are significantly wider than public. As the chart nearby illustrates, manager variability is significant and is likely to deepen over time and during credit stress. Clearly, accessing top performing managers is paramount to outperformance vs. public markets.
Implementation Priorities – Once structural and liquidity tradeoffs are understood, strong execution rests on three priorities:
- Manager Selection – Given the performance dispersion above, advisors should evaluate underwriting standards, sourcing advantages, track records through cycles, use of leverage and sector expertise. Yield alone is insufficient—manager due diligence is central, especially as new entrants with very limited operating histories are proliferating.
- Liquidity, Leverage and Risk Management – Investors must weigh any lock-up periods, redemption frequency and policy, leverage impacts and the historical use of gates to manage outflows. Determining a liquidity plan before the investment is made is an important step, which is another factor that directly shapes the client experience during potential volatile periods.
- Portfolio Optimization/Rebalancing – Given the objectives to enhance income, reduce correlation with traditional assets and improve risk-adjusted returns, an over-allocation to illiquid, higher-risk exposures can erode portfolio resilience if funded with similar public risk characteristics. A well-defined rebalancing plan can alleviate some of this concern. Aligning private allocations with long-term capital market assumptions (CMAs) is an important step in the asset allocation proposal process.
Closing Thoughts
Advisors should not think of private credit as some new asset class but rather an extension of their fixed income strategy. There are distinct advantages of private credit alongside public fixed income, but its complexity, opacity and liquidity constraints require a higher degree of planning, monitoring and communication.
Mitigation of risks can include multi-manager and multi-asset approaches within private credit, which can reduce the impact of unforeseen liquidity events and manager underperformance. By evaluating fund structures, liquidity features and manager discipline, advisors can position private credit not simply as a “high-yield alternative”, but as a strategic contributor to portfolio resilience and align with client objectives over full market cycles.
Important Disclosures & Definitions
Morningstar LSTA US Leveraged Loan 100 Index: measures the performance of the 100 largest facilities in the US leveraged loan market. One may not invest directly in an index.
AAI000996 09/16/2026