S&P Global provides industry-leading data, software and technology platforms and managed services to tackle some of the most difficult challenges in financial markets. We help our customers better understand complicated markets, reduce risk, operate more efficiently and comply with financial regulation.

The private credit market is growing strongly, with around $1.7 trillion in assets under management. Over the past 15 years, more investors have become interested in this type of investment. What started as a niche product has now become a common way for companies to raise money.

Even though private credit has become more popular, it still comes with challenges. These loans are not rated, they are harder to sell, and their terms can vary a lot. This makes them harder to understand and predict. Because of this, it’s important for investors to look closely at how well managers monitor credit quality and how much knowledge they have in-house.

The Importance of Covenant Monitoring

Covenants are rules that borrowers must follow to help reduce the risk of lending money. These rules protect investors by making sure the borrower stays within agreed limits. Following covenants closely is key to keeping loans in good standing and keeping the relationship between lenders and borrowers strong. Monitoring covenants closely helps spot early signs of trouble, allowing lenders to take action before a default happens.

Why More Care Is Needed

Covenants can be hard to understand, especially when they are written in ways that are not standard. When these rules are buried in complex documents, it becomes easier to miss violations.

Right now, changes in the economy and interest rates are putting more pressure on borrowers. This means general partners (GPs) need to be more careful when watching for covenant issues. But the need for more caution is not just about the broader economy. There are also new trends in private credit that are adding extra risks.

More Complex Covenant Rules

In the past, many borrowers—especially those involved in large buyouts—were able to get loans with fewer rules. These “covenant-lite” loans had fewer protections for lenders. However, with new banking rules and tighter capital requirements, many banks and large lenders have stopped offering these types of loans unless the borrower is very stable and highly rated.

As a result, more borrowers are turning to private credit markets where covenants are stricter. This shift is challenging for some lenders who are used to viewing covenants as a formality. Now, they must build or improve the systems they use to track and enforce covenant compliance.

A Wider Range of Lenders

Private credit has delivered strong returns over time, attracting more interest from different kinds of lenders. With interest rates staying high, even more firms are entering this space. While many of these managers are skilled in other types of investing, they may not be as familiar with private credit. This means they might not fully understand how much work is involved in tracking covenant compliance, or they may lack the team and tools needed to do it properly.

Borrowers With Less Experience

As the middle market becomes more crowded, lenders are starting to look at smaller companies. Some of these companies are backed by sponsors, but many are dealing with lenders and covenant rules for the first time. The documents and financial information these borrowers provide must be carefully checked to make sure they meet the terms of their agreements.

Growth in Asset-Based Lending

More lenders are adding asset-based loans to their portfolios as they try to expand. These loans come with more detailed covenants that can be hard to manage, especially for newer lenders. For example, some require borrowers to maintain a minimum value for certain assets through regular appraisals. Others require insurance, financial statements, and access to business information. These extra rules add complexity that lenders must be ready to manage.

Protecting Private Debt Investments

The growing mix of borrowers and lenders in private debt, along with an uncertain economy, means investors need to make sure their managers have the right tools to track covenant compliance. This includes the ability to:

• Track each borrower’s financials to match them against specific covenant terms. 
• Find and respond to any differences from agreed terms quickly. 
• Use data analysis to spot trends and issues across all loans. 
• Get alerts about the status of different covenant types—affirmative, negative, and event-based. 
• Spot potential problems early, using technology to manage risks before they grow. 
• Track when reports and financial documents are submitted to make sure borrowers are on time. 
• Keep all related documents in one place for easy review and record-keeping. 
• Share important covenant documents with any facility providers involved in the loan. 
• Keep past data to help GPs make better decisions in the future. 
• Work with experts who understand covenant rules, either in-house or from outside. 

Human judgment and internal expertise are still important, but they are often not enough by themselves. To meet today’s monitoring needs, managers must use technology and outside services to save time, stay organized, and gain better visibility into how loans are performing.

At S&P Global, we offer a full private debt solution that supports the entire loan process. Our covenant monitoring tools are built to handle each loan’s unique terms. Using a mix of technology and managed services, we help managers organize loan information and documents, giving them a clear view of how their portfolio is performing.

A large and growing part of the market is already turning to these tools. Of the roughly $1.7 trillion in private credit assets, around $435 billion is already managed through our software.

Looking Ahead: The Future of Private Debt

Covenants have always been important in managing private credit risk, but they will matter even more in the future. As private credit becomes a larger part of portfolios and loan structures grow more complex, good covenant monitoring will be essential. Interest rates are likely to stay high, and features like payment-in-kind toggles and fast-changing rules will continue to add to the challenge.

By making sure managers are ready to carry out strong, ongoing covenant monitoring, investors can better protect their money and make sure their private credit investments are managed well.