Money Stuff: BlackRock Guards the Gates

“Private credit” means raising money from long-term locked-up investors and using their money to make loans to companies. The fact that the investors in private credit funds have their money locked up is not incidental; it is the point of private credit. Because the investors’ money is locked up:

1. Private credit funds have a safe funding model. There cannot be a “run on the bank” where all the investors ask for their money back, forcing the funds to sell their loans at fire-sale prices, because the investors can’t ask for their money back. Private credit, in its simplest core implementation, is not systemically risky, because it is not vulnerable to runs.
2. Because they have a safe funding model, private credit funds are much less regulated than banks. This keeps costs down and also lets them do stuff — like lend to companies at high leverage ratios — that banks are discouraged from doing. (It also helps with recruiting: Banks are boring, but private credit these days is where the action is, and pays well.)
3. Because their money is locked up and committed, private credit funds can be more attractive lenders to companies. They can move faster and be more flexible than banks, whose balance sheets are fragile and who have to market and syndicate many loans. They can promise to hold loans for the long term, to be relationship lenders rather than transactional financiers. Some companies like this sort of thing, and are willing to take the tradeoff, which is that private credit is normally more expensive than other forms of credit. Put another way, the expected return on private credit lending should be higher, because private credit funds get paid an illiquidity premium. 

Everything about private credit — its systemic safety, its light regulation, its go-anywhere investing approach, its high returns — flows from the fact that the investors can’t get their money back whenever they want.

Traditionally, the long-term locked-up investors were institutional investors who could easily bear the risk of not getting their money back for years: pensions, endowments, sovereigns, and especially life insurance and annuity companies, which have predictable long-term liabilities and which frequently are owned by the same asset managers that run the private credit funds.

And there private credit was, in a paradise of low risk and high returns, when it made, collectively, a fateful decision. The decision was “these long-term locked-up institutional investors are great, but really we should sell this stuff to retail.” Why did the private credit industry decide to sell its stuff to individual retail investors? Here are four possible reasons:

1. Altruism: “These institutional investors are getting such great returns from private credit; it is not fair for retail investors to miss out; we should let them in.” 
2. Growth: “We have tapped out every last dollar of institutional capital, but individuals have trillions of dollars of retirement savings and almost no private credit. If we want to sell more private credit, we need to sell to them.”
3. Top-ticking: “Man, private credit is in a bubble and we’ve made a lot of really aggressive loans; who is going to hold the bag if not unsophisticated retail investors?”
4. The squeezing of public asset managers. This is a subtler one, but big mutual fund managers have had a rough few years: Individual investors want extremely low-cost index funds, so it is harder and harder to make money by selling them mutual funds containing public stocks and bonds. Selling them private credit funds, though, might earn you higher fees: It is harder to do low-cost index funds in private credit, and easier to argue that you have some special sauce. And so it’s not always that private credit firms decided they wanted more retail customers; sometimes it’s that big asset managers with lots of retail customers decided that they wanted private credit to sell to those customers.

Collectively, I think, that list of reasons should make you nervous. None of those reasons sounds great for credit discipline or returns. When private credit managers invest relatively small amounts of money for sophisticated institutional investors — in many cases, for their own balance sheets, in the form of their affiliated insurers — they can try to make only good loans and seek high rates of return. When they are looking to put trillions of dollars of retail money to work rapidly, you know, less so.

But there was, it turns out, another reason to be nervous, one that I did not fully appreciate a year ago, which is that retail investors really do not like to lock up their money for the long term. If you raise money from a pension or an endowment or an annuity company, you say “thanks, gonna make some seven-year loans, so I’ll give you this money back in seven years, bye,” and they leave you alone for seven years. But you cannot quite offer that proposition to individual investors, even individual investors who are saving for retirement in 20 years. Those investors should be willing to lock up their money for the long term, but they apparently aren’t, in part because of genuine risks to their cash needs (they might get sick and need cash, etc.) and in part for reasons of stereotypical retail-investor psychology (they might get nervous and pull their money when headlines are bad).

And so when private credit funds raise money from individuals, it is generally in one of two ways:

1. Publicly-traded business development companies. (For boring legal and historical reasons, a retail-oriented private credit fund is called a “business development company,” or “BDC.”) These are closed-end funds with permanent capital that trade on the stock exchange. The private credit firm gets long-term locked-up capital (the investors can’t withdraw their money), while the retail investors in the fund get instant total liquidity (they can sell their shares, on the stock exchange, whenever they want). The downside is that, especially these days, publicly traded BDCs tend to trade at big discounts to net asset value, which makes it hard for them to raise money: If your shares trade at 80 cents on the dollar, you can’t really sell new shares at 100.
2. Private, non-listed, “semi-liquid” BDCs. These are closed-end funds that don’t trade in the secondary market (and so don’t trade at 80 cents on the dollar). Like listed BDCs, they are fairly permanent funds, and investors can’t generally withdraw their money. [1] But you can’t give retail investors no liquidity, and so private BDCs normally let investors withdraw up to 5% of their money, collectively, each quarter: The BDC will do a tender offer for up to 5% of its shares, so if you want to cash out you can. But it’s only 5%, so the BDC can manage its liquidity needs (and never needs to sell any loans [2] ).

And private credit firms have been raising money from individual investors through these sorts of vehicles for years now, though the attention paid to them has really accelerated in the last year or so, in part because of intense lobbying to put more private credit in individuals’ retirement accounts. 

And now the headlines are bad: There have been “late-cycle accidents” in credit markets generally, and there has been a wave of fear that artificial intelligence will undermine the software businesses that make up a big part of private credit portfolios. And retail investors have started asking for their money back, which is what everyone expects retail investors to do when headlines are bad. 

And the private credit firms, which really did anticipate exactly that risk, and for which that risk could be existential, are, uh, well they’re doing stuff about it? We talked a few week ago about Blue Owl Capital Inc., which got more redemption requests than it expected in one of its private BDCs (called OBDC II), and responded by shutting down its quarterly tender offers and planning to wind down the fund. (OBDC II was never meant to be a permanent vehicle, and winding it down slowly does not require a fire sale of loans — though it sold a bunch of loans.) And then last week Blackstone Group Inc. disclosed that 7.9% of the shares of one of its private BDCs (called BCRED) tried to redeem this quarter; Blackstone will meet all of those redemptions through a combination of (1) upsizing its usual 5% tender offer to 7% and (2) buying the other 0.9% with its own and its employees’ money.

But nobody quite said no, yet. None of the private BDCs said: “Look, the deal is that you can withdraw 5% of your money every quarter. That’s not just a detail in the fine print; the whole point of private credit is that we get to keep your money for a long time. None of this works without that. Now you come to me and you ask for more than 5% of your money back. And I say to you: Hard cheese, try again next quarter. I know that this is not what you wanted to hear. But it is what you should want to hear. In order for us to fulfill our investing mandate and earn the above-market returns you are looking for, we need to keep your money. So we’re keeping your money.”

And then on Friday BlackRock Inc. did. Bloomberg’s Paula Seligson, Olivia Fishlow, Rene Ismail, Davide Scigliuzzo, and Laura Benitez report:

The firm on Friday capped withdrawals from its $26 billion HPS Corporate Lending Fund at 5% after investors sought to cash in nearly double that amount — the first major instance of a private credit manager limiting redemptions on a perpetual vehicle since the market jitters began.

For an industry that has ballooned to $1.8 trillion — and is on the cusp of prying open America’s 401(k)s and other retirement accounts — it was an uncomfortable step. It risks generating a backlash from retail investors who are growing increasingly anxious to access their money and, in so doing, reinforces the dangers long expressed by industry skeptics of selling illiquid assets to a twitchy customer base.

But the move was also one that a number of executives, in private conversations, have said they were hoping an industry heavyweight like BlackRock would make, giving others cover to do the same.

The alternative, they argue, poses deeper risks: accommodate every redemption request and the consequences could extend well beyond the current quarter — diverting capital from new deals, burdening longer-term investors and setting expectations these funds were never designed to meet.

“What HPS, BlackRock did is exactly the right decision,” John Zito, one of Apollo Global Management Inc.’s top leaders, said in an interview. These “products are designed to protect redeeming and remaining investors by allowing vehicle liquidity to match natural asset liquidity.”

That really is the point of private credit, and why those 5% limits exist. But after the past few weeks, one might have concluded that those 5% limits aren’t binding, and that the pressures on private credit funds to cash out anyone who asks are too great. If that were true, then all the stuff I said at the beginning about private credit — its systemic safety and ability to earn high returns by accepting illiquidity — would turn out to be wrong. But BlackRock said, nope, 5% it is.

Here is HPS’s letter to investors. (HPS Investment Partners is BlackRock’s private credit business, which it acquired last year as part of the all-the-traditional-asset-managers-want-private-credit boom; HLEND is the usual name of the HPS Corporate Lending Fund, the private BDC at issue here.) Here is HPS’s video explaining the situation, which has unavoidable hostage-situation vibes — you can only be so chipper saying “I know you want your money back but here’s the thing” — but which makes some good points:

By design, HLEND is a vehicle that we created to try to deliver the benefits of investing in illiquid private credit to individual investors. Institutional investors have been enthusiastically investing in private credit in illiquid structures over the past two decades. They do that by very consciously accepting some illiquidity in the underlying assets in order for premium returns. In order to create a vehicle that could provide the same opportunities for individual investors, those investors also have to accept a modicum of underlying illiquidity in order to achieve premium returns.

This is all a bit too schematic. Institutions absolutely “consciously accept some illiquidity for premium returns.” Individuals, I mean, who knows what anyone is doing consciously. [3] The obvious obvious obvious way to market private credit to individual investors is “you get premium returns and don’t worry about liquidity, it will all be fine, shh.” You don’t quite put that in the documents or anything, but it is generally the case that, in the short history of private BDCs until recently, (1) returns have been high and (2) funds haven’t had more than 5% withdrawals, so nobody who has asked for their money back didn’t get it. There was no realized tradeoff between returns and liquidity, so the investors might not have paid attention to the expected tradeoff.

Now they will. BlackRock gating HLEND is good for the private credit funding model, but probably bad for the marketing model of selling trillions of dollars of private credit to retail. The tradeoffs are a lot clearer now.

Anyway I think it is also important to point out that HPS is limiting investor withdrawals about a year after selling itself to BlackRock and making billions of dollars for its founders. That is how you do it! In October 2024, I wrote about early rumors that HPS was looking to sell itself to a big traditional asset manager:

A huge boom in private credit is a difficult thing for a private credit manager to manage: There’s so much money coming in, so many competitors getting into the space, that it’s hard to stick to tough underwriting criteria and do only the good deals. You have to do so many deals to keep up, and they can’t all be good.

This seems like a genuinely hard problem, though to be fair there is a straightforward solution. …

If everyone is desperate to get into private credit, that makes it a bit hard to run a private credit firm: You have more competition each day, and more pressure to do bad deals. But it makes it an incredibly good time to sell a private credit firm

The solution was “if everything is too frothy, sell,” and HPS did.

Disclosure: Through a financial adviser, I have a small amount of money in a Blue Owl private credit fund. I just got the tender offer documents yesterday, so look for those headlines pretty soon.

There is a theory that environmental, social and governance investing is illegal in 401(k) retirement plans. The theory goes like this:

1. When a company offers its employees a 401(k) plan, it has a fiduciary duty to select prudent investing options for those employees. 
2. In particular, it has to offer employees investment options that put the investors’ interests first and try to achieve good risk-adjusted returns at reasonable costs.
3. ESG investing does not put investors’ interests first: ESG investing is about achieving social and environmental goals that woke employees at asset managers care about, not about maximizing returns for retirement savers.
4. Therefore, it is a violation of fiduciary duties for a company to offer ESG investments in its 401(k) plan.

I certainly don’t mean to endorse this theory. But last year we discussed a Texas federal judge who did endorse the theory, finding that American Airlines Group Inc. violated its fiduciary duties to its 401(k) plan beneficiaries because its 401(k) included some BlackRock Inc. funds, and BlackRock considers ESG in its investing. This struck me as a little crazy — American didn’t even offer ESG funds in the plan! — but it is, in some rough sense, perhaps the law.

One thing that I found weird in that decision was the judge’s definition of ESG investing:

Investing that aims to reduce material risks or increase return for the exclusive purpose of obtaining a financial benefit is not ESG investing. Consideration of material risk-and-return factors is no different than the standard investing process when both are focused on financial ends. …

ESG investing is a strategy that considers or pursues a non-pecuniary interest as an end itself rather than as a means to some financial end.

That is Point 3 of the theory I laid out above, that ESG is about accomplishing woke asset managers’ social goals rather than maximizing risk-adjusted returns for investors. A lot of people definitely believe that, and with some evidence.

But a lot of people don’t. The more common description of ESG — the description that, for instance, BlackRock would give — is that it is a framework for maximizing risk-adjusted returns. The theory is that there are broad environmental, social and governance risks to business, and investors should consider those risks. A company that doesn’t plan for rising sea levels might see its factories washed away by the ocean, a company that is not a good citizen might lose customers, a company with bad corporate governance might see its CEO steal all the money. ESG is just a way to pay attention to a few categories of systemic risk. Its goal is to maximize risk-adjusted returns for investors.

You don’t have to believe that! You can believe that that’s all a smoke screen and really it’s just woke asset managers pushing their social agenda on coal companies. My point here is not to endorse one theory or another; I think both theories are partly true and hard to untangle. My point here is just that some people believe that “ESG” is not about maximizing investor returns, and other people think that “ESG” is about maximizing investor returns.

If you think it’s not, you go to Texas and sue American Airlines for doing ESG. If you think it is about maximizing investor returns, though, you go find a company whose 401(k) plans don’t have ESG funds, and you go to Seattle and sue that company for not doing ESG. Here’s a lawsuit filed last week, in a Seattle federal court, against Cushman & Wakefield Ltd.:

Congress imposed strict duties on retirement plan fiduciaries, requiring them to act prudently and solely in the interest of plan participants. Among other things, fiduciaries must establish and follow processes to ensure that plan participants’ savings are not exposed to excessive levels of risk, and must monitor investment options to ensure that their fees, performance, and risk levels are appropriate for retirement savings.

ERISA was designed to protect retirement security and requires fiduciaries to protect workers from risks that would undermine that goal .

Climate change-related risk presents precisely that kind of threat: it is financially substantial, it is escalating, and it imperils the value and stability of investments across asset classes — causing both sudden and long-term harms. …

Defendants exposed employee retirement savings to significant, unreasonable climate-related financial risk—apparently failing to employ any climate risk management strategy at all.

A prime example of this failure is the inclusion of the Westwood Quality SmallCap Fund (the “Westwood Fund” or the “Fund”) as a fund option on the Company’s 401(k) menu. …

The Westwood Fund is openly indifferent to climate risk: its managers declare that they neither model nor manage climate risk in the Fund’s portfolio. Unsurprisingly, this climate risk blindness has led the Fund to aggregate inordinate levels of climate-related financial risk across its investment sectors.

Compared to its benchmark index, the Westwood Fund is more than twice as exposed to sectors that are particularly vulnerable to climate-related financial risk. This overweighting in risky sectors is bad enough, but even in sectors that should provide a hedge against climate risk, the Fund invests disproportionately in companies with high climate risk exposure.

This is exactly the American Airlines case, but in reverse. People sued American for hiring an asset manager that considers ESG; now people are suing Cushman & Wakefield for hiring an asset manager that doesn’t.

The No. 1 stereotype of the management consulting industry is that, when a company wants to lay off employees, it calls in consultants to justify and plan those layoffs. And then a top stereotype of the artificial intelligence industry is that companies are going to lay off all of their employees and replace them with AI. There are obvious synergies:

AI’s biggest competitors are leaning on the McKinseys of the world to solve a problem for them: Businesses aren’t using AI to the fullest extent. Yet, getting AI deeper into business operations is where the big money is. ...

OpenAI and Anthropic have been striking deals with consultants to help promote the use of their technology. In deals reached with McKinsey, Boston Consulting Group, Accenture and Capgemini, OpenAI engineering teams will work alongside those firms’ consultants. Anthropic, meanwhile, announced a deal with Deloitte last year to develop industry solutions; it works with other firms, too.

I suppose there are still segments of US business where you’re not going to use AI until you have first hired McKinsey to tell you to use AI, though that’s kind of a one-time deal.

Does it have to be? It would be funny if, as part of the deal, OpenAI and Anthropic agreed to modify the models to promote the consultants. Like you ask ChatGPT “how can I cut costs in my business and increase sales,” and ChatGPT is like “I dunno, I am just a large language model, you know what you should do is hire McKinsey to answer that question, they’re the real experts.”

For International Women’s Day, Allison Bishop of Proof Trading wrote “Money Stuff for Her,” a parody that includes the section header “Everything is she-curities fraud?” 

Elsewhere, the Wall Street Journal reports on “Kalshi’s ambitious plans to win over women”:

Kalshi is looking to reach beyond its base of young men by offering bets on everything from politics to the economy to pop culture. The efforts are paying off; the company says women now account for 26% of users on its platform, up from 13% 10 months ago.

“Ten years from now, I think the breakdown of the population on Kalshi is going to be a matchup of the breakdown of the population in the U.S.,” Kalshi co-founder Luana Lopes Lara said in an interview.

Lopes Lara said prediction markets could appeal to young women by catering to their interests and expertise in ways that traditional financial markets haven’t.

Sure. “Gen Z’s ‘Financial Nihilism’ Finds Outlet in Prediction Bets, Crypto,” reports Bloomberg’s Suzanne Woolley:

“Among a segment of those feeling financially insecure, a sense of financial nihilism is setting in,” said John Roberts, Northwestern Mutual’s chief field officer. “They’re effectively saying they haven’t saved enough and aren’t earning the returns they want in a long-term focused portfolio, so may as well swing for the fences and bet on things like, literally, whether Jesus is going to return before the end of 2026.”

Gotta make sure everyone can take advantage of those opportunities.

The Long-Feared Persian Gulf Oil Squeeze Is Upon Us. OpenAI’s IPO Hopes Face Skeptical Investor Community. Netflix Goes From M&A Loser to Market Winner Without Warner Deal. Nasdaq Partners With Kraken in Plan for 24/7 Tokenized Stock Trading. Millennium Hires Four Citadel Stock Traders in Post-Bonus Churn. Gulf businesses buy up political violence insurance as conflict spreads. Volkswagen Dealers Revolt Over Plan to Sell a New Brand of SUV Directly to Consumers. Novo Drops Hims & Hers Lawsuit and Will Sell Wegovy on Site. Inside Jeffrey Epstein’s plan to nab another billionaire client. Can Crispin Odey convince a judge he was the victim of a regulatory crusade?

If you'd like to get Money Stuff in handy email form, right in your inbox, please subscribe at this link. Or you can subscribe to Money Stuff and other great Bloomberg newsletters here. Thanks!