Diameter Capital founder Scott Goodwin opened his Sohn conference presentation Tuesday with a blunt assessment of private credit.
Goodwin, whose firm manages $30 billion and invests across different credit opportunities, has been critical of private credit managers that have loaded up on loans to asset-light companies exposed to disruption from artificial intelligence. In a letter to investors from earlier this year, he predicted a “reckoning” in the private credit space.
Tuesday’s presentation went further, as Goodwin said the portfolio construction of private credit portfolios overly exposed to sectors like software is “almost criminal.”
After years of rapid growth in private credit, concerns over credit quality and about how AI could disrupt software have driven record-high investor redemption requests at some of the biggest funds.
“A lot of things were missed, but mostly the pace of technology change,” he said. The most “acute” problems will emerge from private credit funds raised in 2021 and 2022, when software valuations were near their peak, and growth in the asset class pushed managers to seek out bigger and bigger deals.
“You cannot have 40, 50, 60% of your portfolio in a single sector,” he said.
Now, there are opportunities for managers like himself.
Diameter’s analysis found that between $150 billion and $200 billion of loans from private credit funds in need of liquidity will be sold on the secondary market in the coming years. The firm has already done 15 of these deals over the last two months, Goodwin said, including picking up some loans to companies that Diameter was already lending to.
The sell-off in publicly traded BDCs has left some portfolios with strong underlying holdings undervalued, and Diameter expects to scoop up some of them at the right price, Goodwin said. And the pullback in direct lending over the coming years should allow firms with staying power the ability to negotiate better terms with companies in need of capital.
“This is not a systemic issue,” Goodwin said about the credit markets as a whole, but new funds need to “know the names” of companies they’re lending to.
