⚠️ Default Distress: What Private Credit Troubles Could Mean for Regional Banks

Quote of the week: "Banks get in trouble for one reason: They make bad loans."  Carl Webb

The high-profile failures of First Brands and Tricolor have left investors fearing that troubles in private credit could extend to regional banks and the broader stock market.

First Brands, a car parts company, filed for bankruptcy in late September as creditors became concerned about the company's liabilities, which far exceeded its assets.

Tricolor, a car dealership and subprime auto lender, filed for Chapter 7 liquidation weeks earlier after allegations that it had pledged the same collateral on multiple loans.

Both companies relied on private credit lenders who are now suffering losses. As a result, many fear that those losses could cascade throughout the entire private credit market.

Compounding these fears, Western Alliance and Zions Bank have discovered allegedly fraudulent activity by borrowers. It's no surprise that the KBW Regional Bank Index (KRX) has fallen more than 6% in the last month.

In this week’s piece, we’ll:

• Explain what’s happening in the world of private credit
• Review why the industry presents  new risks today
• Identify how  investors can reduce downside exposure

What Happened in Markets This Week?

Here’s a quick summary of what’s been going on:

• 🧑‍⚖️ Supreme Court justices appear skeptical that Trump tariffs are legal ( CNBC )
  • The Supreme Court looks likely to strike down Trump’s sweeping tariffs, with justices across the spectrum skeptical that the president can unilaterally impose taxes under the IEEPA (International Emergency Economic Powers Act).
  • If overturned, the government might owe $750 billion in refunds to importers, which could trigger a fiscal jolt and disrupt Treasury plans for 2026.
  • A rollback would also upend trade assumptions for companies relying on current tariff protections.
  • Tariff-heavy importers like retailers, toy companies, and wine distributors could see relief, but any retroactive refunds would be messy and litigation-prone.
  • Markets might cheer a decision seen as inflation-friendly, but uncertainty over timing and scope keeps pricing cloudy for now.
  • A SCOTUS ruling against Trump’s tariffs could unwind $3 trillion in projected revenue by 2035, and shake trade-dependent sectors, so watch for volatility in tariff-sensitive names.
    
    
• 🇺🇸 U.S. markets stabilize after tech rout ( WSJ )
  • Markets bounced back modestly after a tech-driven dip, but lingering doubts about AI valuations and Trump’s tariff policy kept nerves frayed.
  • It seems investors are eyeing the Supreme Court case mentioned above as a potential catalyst to reprice risk in trade-dependent sectors and shift inflation expectations.
  • AI remains the main engine for the 2025 rally, but rising capital spending from firms like Meta is forcing a reality check. Companies that miss expectations (like Palantir ) may get punished harder.
  • Bond yields and gold held steady, suggesting markets are hedging against both rate and geopolitical risks while equity volatility cooled slightly.
  • While the AI trade is still on, some argue cracks are forming. As we always mention, use our portfolio tool to make sure your exposure matches your risk tolerance and objectives.
    
    
• 🚗 Toyota raises forecast despite an expected hit from U.S. tariffs ( CNBC )
  • Toyota raised its full-year profit forecast despite a $9B hit from U.S. tariffs, leaning on strong Japan and North America sales to offset margin pain.
  • The company is absorbing most tariff costs rather than passing them to U.S. consumers, which is crimping profits, especially as Japanese auto exports to the U.S. remain under pressure.
  • Plans to ship U.S.-built cars back to Japan highlight the contortions companies are making to navigate Trump’s tariff regime - even if it’s economically questionable.
  • Profit recovery hinges on trade stability and a weaker yen, but rising EV competition, especially from China, limits long-term upside.
  • Toyota’s resilience shows demand strength, but persistent tariff drag and a slow EV rollout keep margin expansion in check. Some investors are waiting for clearer signs of trade relief or yen tailwinds before taking any action.
    
    
• 📲 Meta still wants to have its iPhone moment ( Sherwood )
  • Meta’s Reality Labs burned another $4.4B last quarter, bringing its total AR/VR losses north of $73B, but the company is still chasing its “iPhone moment” through AI smart glasses.
  • Zuckerberg’s pitch is an ecosystem play through hardware. If Ray-Ban Meta and future devices scale, Meta sees monetization coming from AI-powered services layered on top.
  • Any investors betting on this vision need to stomach long-term R&D pain with no short-term payback. Reality Labs is still losing nearly $10 for every $1 it earns.
  • The real risk is that AI might not follow the smartphone playbook. If the form factor or use case doesn’t stick, Meta’s moonshot could be a multibillion-dollar sinkhole.
  • Meta’s hardware-AI gamble is a high-stakes ecosystem bet. To be bullish, you’d need faith in smart glasses going mainstream and creating a new hardware ecosystem that circumvents existing mainstream hardware ecosystems.
    
    
• 🤝 OpenAI, Amazon sign $38 billion cloud deal ( WSJ )
  • OpenAI just inked a $38B cloud deal with Amazon, ending years of Microsoft exclusivity and signaling a massive diversification in its infrastructure stack.
  • For Amazon, this is less about immediate revenue and more about keeping AWS in the AI race as Microsoft and Google sprint ahead in cloud-AI growth.
  • While small next to OpenAI’s $300B Oracle and $250B Microsoft commitments, it’s a key foot in the door and a hedge against losing Anthropic to Google chips.
  • Amazon’s OpenAI deal is a strategic win, not a financial one (yet). It keeps AWS in the AI infrastructure game and signals that hyperscalers must fight hard—and spend big to stay relevant in the AI gold rush.
    
    
• 🛢️ Oil holds two-day drop after US stockpiles rise most since July ( Bloomberg )
  • Oil prices steadied after a two-day slide, with the biggest U.S. inventory build since July adding to oversupply worries, but a sharp drop in gasoline stocks offered some cushion.
  • WTI hovering below $60 suggests market sentiment is shifting toward bearish, especially with OPEC+ and non-member supply ramping up and demand staying soft.
  • Traders are starting to price in the risk of a 2 million barrels/day oversupply next year, which could cap oil upside even in the face of geopolitical flare-ups.
  • Energy equities and oil-linked ETFs may face continued pressure unless we see a production cut or a demand surprise.
  • Crude is sliding under the weight of growing inventories and tepid demand. Unless something breaks that trend, oil bulls might be stuck in neutral.

🧠 Why the Topic of Private Credit is So Public

Private credit is nothing new. The idea is simple: private investors, such as insurers, pension funds, and high-net-worth individuals, offer loans to businesses.

This approach differs from traditional lending, in which banks issue loans partially backed by customer deposits.

So if private credit has been chugging along for four decades, why is everyone talking about it now? There are three reasons:

💰 1. Private Credit is Booming

After the Global Financial Crisis (GFC) of 2008, the game of banking changed.

Regulators stepped in and required large bank holding companies to adhere to stricter standards, including higher capital and liquidity requirements.

Regulators also required banks to perform more thorough reviews of borrowers. Essentially, lending became more complex and expensive.

This was where private credit stepped in.

As borrowers encountered increasingly restrictive banks, they turned to private creditors , classified as non-bank financial institutions (NBFIs), also known as the shadow banking sector.

They can act more freely than traditional banks. They also benefited from the low interest rates of the post-GFC, which allowed them to access cash inexpensively.

Source: BNY

Alternative asset managers like KKR , Blackstone , Ares , and Apollo have helped private credit grow from about $500 billion in assets under management (AUM) to $3 trillion today.

📈 2. Returns from Private Credit Have Been Strong

An analysis from Morgan Stanley shows that over the last 10 years, private credit has “ Provided higher returns and lower volatility compared to both leveraged loans and high-yield bonds . ”

Investors have noticed this rise and are pouring money into private credit funds.

A Financial Times report shows that in the first half of this year, affluent US individuals put $48B into private credit funds . This amount is more than all of 2023 and on track to surpass the latest high of $83.4B set in 2024 .

This surge of investor interest in private credit is now global. Numbers are also climbing in Europe. Today, there are about 37 private credit evergreen funds in the European market . In 2022, there were just 6.

This investment fervor has driven an annualized growth rate of 14.5% in private credit AUM over the last decade .

📊 3. There’s Plenty of Room for Growth

While private credit investing has grown, there's still an enormous amount of capital to target.

Today, private credit represents only 9% of all corporate borrowing and roughly 10% of the $16.4 trillion alternative investment market . Forecasts from BlackRock project that private credit AUM will grow to $4.5 trillion by 2030.

One reason for expected growth in private credit: companies are staying private for longer.

Many cite that the IPO market has been quiet in recent years (though it has picked up this year) , but the trend of companies staying private is longer than most realize.

Over the past 20 years, the number of publicly traded companies has fallen. In 1997, the US was home to about 7,500 publicly listed companies. Now that figure is 4,000.

In this environment, companies will need to tap credit solutions, either from a bank or NDFI, since they can’t get funding through public stock or credit issuances.

In this setting, private credit is often be the simpler answer.

⚠️ What Are the Risks Emerging in Private Credit and Regional Banks?

The private credit-related failures of First Brands and Tricolor have resurfaced memories of the 2023 banking crisis involving Silicon Valley Bank, Signature Bank, and First Republic Bank.

Concerns about systemic risks grew after Zions Bank cited $50 million in losses from commercial and industrial loans. Around the same time, Western Alliance initiated a lawsuit alleging fraud associated with loans to non-bank financial companies.

These events have left many investors holding their breath, wondering whether J.P. Morgan CEO Jamie Dimon was right when he warned that “ when you see one cockroach, there are probably more.”

To understand the risks, real and imagined, in private credit, we’ve broken the topic down into three parts.

• 🔥Banks Have Exposure to Private Credit Risks
  • As private credit AUM in the US has increased over the past decade, banks have increased their loans to non-depository financial institutions (NDFIs). About 24% of those loans were to private credit providers. This dynamic presents risks because banks are responding to tighter regulations by lending money to NDFIs that are not subject to those stricter standards. In short, banks are lending to their competitors who are deeply involved in these riskier private credit transactions.

Source: Moody’s

• 📊Institutional Investors Are Projected to Increase Their Private Credit Holdings and Therefore Risk
  • According to PwC, Private credit is becoming a larger part of the portfolios held by institutional investors such as pension funds, insurance companies, and investment banks. As a result, these big players are gaining greater exposure to the risks buried in the balance sheets of players like First Brands and Tricolor. If these holders experience losses from fraudulent borrowers, it's reasonable to assume that the broader stock market will react, leading to aggressive selling.

Source: PwC

• 🛡️Banks Are Taking Action to Shore Up Resources
  • Data from the Federal Reserve shows that banks are taking steps to convert highly liquid securities, such as Treasury and mortgage bonds, into cash. Why? Because they want to help fund their short-term cash shortfalls.
  • We know this is happening because these banks are turning to the central bank's overnight "repo" facilities . While this may appear alarming, it could also be a sign that banks are taking appropriate measures to ensure they're covered. It's also essential for investors to know that this story is not confined just to small regional banks. Recently, the larger regional bank, Fifth Third Bank, recorded a $178 million loss from Tricolor’s bankruptcy . While these numbers sound high, many of these banks can absorb the loss.

💡 The Insight: Identify the Risks and Reduce Exposure.

First, don’t panic. The fallout from First Brands and Tricolor remains limited for now. After all, in the fourth quarter of 2024, US Banks lent to just 594 NDFI’s out of the roughly 4,000-plus in existence . That’s less than 15%.

Other banks may end up disclosing exposure to bad loans, like Zions and Western Alliance did, but widespread failures appear unlikely at this stage.

Here are three ways investors can move forward:

• 🔍 Understand Where NDFI Lending is Greatest

  • If you're averse to investing in banks and financial institutions that engage in a lot of NDFI lending, consider limiting your exposure to the most prominent players.
  • For example, Wells Fargo issued the most loans to NDFIs in the fourth quarter of 2024 , totaling $158B . Coming in second was Bank of America with $157B. JPMorgan ranked third with just over $130B in NDFI loans. Of the 594 banks that engaged with NDFIs last year, those with under $10 billion in assets were most represented.

• ♟️Stay Diversified

  • Fraud will always be a risk when investing in financials. While that risk cannot be avoided entirely, it can be mitigated. An investor’s best tool for this is diversification.
  • The good news: it doesn’t take very many stocks to gain the full benefits of diversification. Research from the CFA Institute found that " For large-cap portfolios, there's little to be gained by diversifying beyond 15 stocks or so. For small-cap portfolios, peak diversification is achieved with around 26 stocks.”
  • Investors don't need many holdings to achieve sufficient diversification. Additionally, investors need to diversify their exposure across sectors, making sure they are not too heavily weighted in financials.

• 🤖 Use a Screener to Isolate Healthy Companies in the Financial Sector

  • One of the most effective ways to identify high-quality companies in the financial sector i s to use our screener tool . With this approach, you can ensure you’re focusing on companies with a strong earnings history or a healthy balance sheet.
  • Check out our High-quality Financial stocks screener that we mentioned last week. There are currently 44 stocks that meet these criteria, and 8 were added in the last week!

Source: Simply Wall St

Key Events Next Week

Tuesday

• 🇦🇺 Westpac Consumer Confidence

  • ⬆️Forecast: 2.8 Previous: -3.5%
  • ▶️ Why it matters: Better sentiment supports household spending and soft-landing hopes.

• 🇬🇧 Unemployment rate

  • ⬆️Forecast: 4.8% Previous: 4.7%
  • ▶️ Why it matters: A softer labour market keeps BoE rate cuts in play.

Thursday

• 🇬🇧 GDP Growth Rate YoY Preliminary
  • ⬇️ Forecast: 1.3% Previous: 1.4%
  • ▶️ Why it matters: Slower growth pressures the BoE to stay dovish.

Friday

• 🇨🇳 Industrial Production
  • ⬇️ Forecast: 5.8% Previous: 6.5%
  • ▶️ Why it matters: Weaker factory output signals softer global demand and can weigh on commodities.
• 🇨🇳 Retail Sales YoY
  • ⬇️ Forecast: 2.2% Previous: 3%
  • ▶️ Why it matters: Slower consumer spending makes China’s recovery look uneven.

Earnings season is in full swing, and here are more big names reporting this coming week:

• Alibaba
• Cisco
• Disney
• Applied Materials
• Brookfield Corporation
• Sea Limited
• NetEase

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com

Simply Wall St analyst Richard Bowman and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.