The AI boom is fueling a surge in private credit, but this could be a risky venture. The Financial Stability Board (FSB) has issued a stark warning, suggesting that a sharp correction in asset valuations could lead to significant credit losses for private credit investors. This is particularly concerning given the rapid growth of the AI industry, which accounted for over a third of private credit deals in 2025, up from 17% just five years prior. The healthcare, services, and tech sectors, including AI firms, have become the biggest borrowers of private credit, with a focus on funding datacentres and infrastructure. However, this concentration in specific sectors may leave private credit funds vulnerable to unique risks and increase exposure to region or industry-specific shocks. The FSB's report highlights the potential for a correction in asset valuations, triggered by a shortfall in electricity supply, which is critical for datacentre construction and operation. This could lead to delays or cancellations of projects, impacting the AI industry and, consequently, private credit investors. Moreover, the report adds to existing concerns about the private credit industry, which lends to companies using investor money outside the traditional regulated banking system. These anxieties have already led to a multibillion-pound surge in withdrawals from private credit funds, forcing some to cap withdrawals. While private credit lenders claim to be better at monitoring risks and providing tailored loan arrangements, the FSB notes that borrowers typically have lower credit scores and higher debt levels than those using traditional banks. This raises questions about the risk assessment capabilities of private credit firms. The integration of traditional banks with the private credit sector further complicates matters. Banks are lending directly to private credit funds, financing riskier portfolios, or lending to firms borrowing from private credit firms. This exposure to an opaque sector, where lenders may have limited information about borrowers, is a cause for concern, as evidenced by recent corporate bankruptcies and fraud allegations. The collapse of Tricolor and First Brands, two US automotive companies backed by private credit, has already resulted in significant losses for banks like JP Morgan and Barclays. The FSB's report underscores the interconnectedness of these financial institutions, highlighting how a single failure can have far-reaching consequences. As the AI boom continues to drive the demand for private credit, it is crucial to carefully assess the risks and ensure that lenders have comprehensive information about borrowers. The FSB's warning serves as a reminder that the AI industry's rapid growth may be accompanied by hidden vulnerabilities, and investors must remain vigilant to avoid potential pitfalls.
