Regulatory Coverage: US Regulators Consider Increased Monitoring of Private Credit Industry

Relevant Documents:
FSOC Readout
MFA Whitepaper
Peirce Speech

The U.S. Financial Stability Oversight Council on Oct. 18 reviewed U.S. regulators’ efforts to increase monitoring and oversight of the growing private credit industry. Regulators have in recent months proposed additional reporting and data collection requirements for the $2 trillion industry, and industry organizations such as the Managed Funds Association have pushed back on the proposals. Additionally, Hester Peirce, a Republican member of the U.S. Securities and Exchange Commission, does not support the proposals for new monitoring tools.

FSOC is an interagency panel headed by Secretary of the Treasury Janet Yellen, and council members include Federal Reserve Chair Jerome Powell as well as the heads of the Securities and Exchange Commission, the Federal Deposit Insurance Corp., the Comptroller of the Currency, the Commodities Futures Exchange Commission and other financial regulators.

Although FSOC’s meeting took place behind closed doors, according to a readout, the “council members noted that the current lack of transparency in the private credit market can make it challenging for regulators to fully assess the buildup of risks in the sector.” Additionally, the council “discussed member agencies’ efforts to enhance monitoring of this market.”

FSOC, the Fed and the International Monetary Fund have in recent months called for increased monitoring of the “opaque” private credit industry. Acting U.S. Comptroller of the Currency Michael Hsu in February outlined a “trip wire” framework for identifying certain private credit and private equity funds that might pose systemic risks. FSOC has not sought public comment on the framework, which it would need to do before implementing it.

The SEC and CFTC in February finalized amendments to Form PF – a filing required of SEC-registered investment advisers with at least $150 million in private fund assets under management – to bolster oversight of hedge funds, private equity funds and private credit funds and to assist FSOC in monitoring systemic risks. Additionally, the Fed in June proposed requiring banks to report additional information in their capital and stress-testing reports, known as Form FR Y-14, on their lending to private credit funds, hedge funds and other nonbank financial institutions.

The Managed Funds Association, an industry organization representing hedge funds and private credit funds, in August criticized the Fed’s Form FR Y-14 proposal, arguing that it would be overly burdensome. The Fed’s proposal remains pending but could go into effect at the end of 2024.

Ahead of last week’s FSOC meeting, MFA released a white paper arguing that regulators’ “claim that private credit markets are opaque is without basis.” Although private lenders “may appear less transparent than traditional banks,” MFA says, a “substantial amount of data is available to policymakers and the public.” Because private credit funds and direct lenders “do not take customer deposits or have access to federal backstops,” they should be subject to different reporting requirements than banks, MFA contends.

MFA notes that larger private credit funds provide regulators with confidential data through Form PF and similar filings. Additionally, the group notes that regulators require banks to report their financing to private lenders in call reports. Private credit funds also submit borrower and loan information to state regulators in accordance with state lending laws, MFA adds.

The white paper also notes that many direct lenders are organized as business development companies, or BDCs, that must publicly report their holdings every quarter. These filings can be reviewed on Reorg’s BDC Database.

MFA also highlights that insurance companies – which are major investors in private credit assets – provide financial disclosures to state regulators that are often made publicly available. Additionally, the Uniform Commercial Code requires private credit funds and other lenders to publicly file financing statements with their respective state-level agencies, MFA points out.

Not all regulators agree that new tools are needed for monitoring the private credit industry.

SEC Commissioner Peirce on Oct. 15 told the SIFMA Private Credit Forum that regulators should be “using the tools we already have” to monitor the private credit market. “Invoking systemic risk to regulate private credit in the same way we regulate bank lending would engender risks of its own” she argued. Peirce added that it would “squelch the dynamism” of the nonbank sector and would “homogenize the market, which could make future financial contagion more, not less, likely.”

Peirce, a Republican appointed in 2018 by President Donald Trump, has vocally opposed the SEC’s aggressive rulemaking agenda under President Joe Biden’s SEC chair, Gary Gensler. Unlike Gensler, Peirce is not a member of FSOC. Peirce voted against the agency’s recent enhanced reporting requirements for Form PF as well as its rules for private fund advisors, which the U.S. Court of Appeals for the Fifth Circuit has since invalidated.

A Trump victory in the upcoming presidential election could result in financial regulators stepping back from their recent efforts to enhance reporting and oversight of the private credit industry. The next president will have authority to appoint many key members of FSOC. It is unclear if and when the Fed will finalize its changes to Form FR Y-14 requiring banks to report more information on their loans to private credit funds and other nonbank financial institutions.

During FSOC’s Oct. 18 meeting, members also discussed risks in the banking and commercial real estate sector.

According to the readout, council members “noted that depository institutions should continue proactively to manage shifts in economic and interest rate conditions and discussed efforts undertaken by institutions and supervisors to enhance resilience planning.” Additionally, the council discussed “the need for continued monitoring of credit conditions, and the impact of interest rates on banks’ net interest margins, deposit flows, and fair-value losses on securities.”

FSOC also received an update from the Federal Housing Finance Agency on its proposed rule to provide federal home loan banks “more flexibility to manage intraday liquidity” and on guidance for such banks around “enhancing their credit risk management practices and liquidity access for members.”