Risks in Australia's Expanding Private Credit Market: Lessons from the Metrics Probe

The Australian private credit sector is booming. With traditional banks retrenching from riskier lending, non-bank lenders have stepped in to fill the gap, offering financing to real estate developers, small businesses, and distressed borrowers. However, this rapid expansion has drawn the scrutiny of regulators, particularly the Australian Securities and Investments Commission (ASIC), which has flagged systemic risks tied to governance, valuation practices, and conflicts of interest. The ongoing investigation into Metrics Credit Partners—a $30 billion private credit manager—serves as a cautionary case study for investors navigating this complex asset class.

The Metrics Probe: A Mirror for the Sector

ASIC's probe into Metrics Credit Partners highlights three critical vulnerabilities in Australia's private credit market:

1. Real Estate Overexposure and Systemic Risks
   Metrics, like many private credit firms, has heavily concentrated its portfolio in real estate. While this aligns with strong demand for property-linked debt, it also amplifies exposure to market downturns. ASIC's concerns are echoed by Moody's, which warns that $1 trillion in commercial mortgages could shift to private credit over the next five years. The regulator is particularly wary of “distressed assets” and equity co-investments, which could cascade into broader financial instability if defaults rise.

2. Conflicts of Interest in Fee Structures
   Private credit managers often retain upfront fees from borrowers, creating incentives to prioritize high-fee deals over prudent risk management. ASIC has criticized this practice, urging firms to adopt flat management fees that align manager and investor interests. Metrics has responded by emphasizing its disciplined selection of risk-adjusted opportunities, but the broader sector remains vulnerable to misaligned incentives.

3. Opaque Valuation Practices
   Valuing private assets is inherently subjective. ASIC has found that some funds fail to adjust valuations during market downturns, masking true risks. For instance, Perpetual's Michael Murphy noted that some private credit managers have not marked down real estate-linked debt in line with broader market declines. Metrics has increased transparency by publishing detailed loan pricing and risk metrics, but the lack of standardized valuation frameworks remains a regulatory red flag.

Investor Implications: Navigating the Risks

For investors, the Metrics probe underscores the need for rigorous due diligence. Here's how to assess the long-term viability of private credit investments:

• Demand Transparency in Valuation Models
  Ask how funds determine the fair value of assets, especially during stress scenarios. Require third-party audits and stress-test assumptions. Metrics' recent move to publish risk settings and credit quality is a positive step, but it's not the norm.

• Scrutinize Governance Structures
  Evaluate whether a fund's fee structure creates conflicts of interest. Prioritize managers with flat management fees or clawback provisions. Metrics' use of independent trustees like Perpetual and EQT is a model to follow.

• Diversify Real Estate Exposure
  While real estate-linked debt offers attractive yields, overconcentration in commercial or residential property can magnify losses. Metrics' 50/50 split between senior secured debt and equity in its Real Estate Multi-Strategy Fund (MRE) illustrates a balanced approach.

• Monitor Liquidity Management
  Private credit funds often lack the liquidity of public markets. Understand how managers handle redemptions and whether they retain sufficient capital to weather defaults. Metrics' emphasis on funding projects from inception to completion is a strength.

The Road Ahead: Regulatory Evolution and Investor Caution

ASIC's 2025 outlook signals a tougher regulatory environment for private credit. The regulator is likely to push for standardized valuation frameworks, stricter liquidity rules, and enhanced transparency mandates. For investors, this means:

• Supporting Regulatory Reforms
  Advocate for clear valuation guidelines and mandatory stress-testing of private assets. Metrics' proactive disclosures may set a precedent for industry-wide improvements.

• Vetting Managers Rigorously
  Demand access to fund-level performance data, including net returns after fees and defaults. Metrics' 12-year record of positive monthly returns is impressive, but it's rare and should be a benchmark.

• Balancing Returns and Risk
  Private credit offers diversification and income, but its risks—especially in real estate—are non-trivial. Allocate cautiously and consider hedging with more liquid assets.

Conclusion

The Metrics probe is a microcosm of Australia's private credit market: high yields, high risks, and a regulatory crackdown. While the sector's growth is inevitable, its long-term success hinges on addressing governance, transparency, and valuation challenges. For investors, the lesson is clear: private credit is not a one-size-fits-all solution. It demands active management, rigorous scrutiny, and a willingness to ask hard questions. In an era of regulatory vigilance, only the most disciplined players—and their investors—will thrive.