Inflating Asset Prices (Private Credit Crisis)

Yeah, yeah.

So there are two things here.

So how we came across PIC loan is pretty interesting.

We find that PIC is like one of the ways you can keep the valuations high.

It's sort of like during COVID, for example, here's a big negative shock.

Well, the loans should be marked down because the borrowers are having a hard time repaying.

One of the ways these private credit funds can sort of keep the valuation high and justify that the valuations are still high is to grant these PICs.

So instead of saying, oh, you're a borrower, you have trouble repaying me now.

Well, that's problematic.

So it seems like you're supposed to pay me back 10% this year.

You're only paying back 5%.

I'm going to mark that as problematic.

And I'm going to mark down the value of the loan, right? Because if the loan is not fully repaying the interest payment, et cetera, that's definitely a sign of distrust.

Well, the private credit funds can say, well, instead of requiring you to pay right now, let me grant you this pick.

So you don't pay with cash.

You pay with... promises to pay in the future so you like it's principle onto principle so you will pay with more principles so you just owe me more debt um so big is nothing new right like it's just like some sort of like a way to automatically allow you to extend your maturity or allow you to not pay as of the moment um so that's that's like how we found like that's So we found that this is like a way to basically keep the valuation high.

So I'm going to keep pretending that you're doing great and your loan is still 100.

So that's what we find.

And then more to your point, This is, I think, by now a well-known thing.

It's like, how do we even judge the default or the distress in this space? I want to just clarify that I don't think this is a central part of our paper, so this is just my thought.

I mean, basically, if a borrower is supposed to be actually in default, but these private credit funds are much more lenient than the traditional lenders, then they can say, well, instead of letting you fall in default, I'm going to grant you a PIC.

So you're not technically in default, but you're in PIC.

If you only focus on default, you say, oh, this borrower is doing great.

But it's not because the borrower is actually able to pay cash.

It's just the lender is granting this forbearance on the borrower.