Oil prices threaten to blow up a $3tn market

A blockade of one of the world’s most important shipping straits, a barrage of missiles raining down on the Gulf and surging energy prices have naturally triggered chaos in global markets.
Much of the turmoil has played out in public on stock markets and bond exchanges around the world. Yet pain is also being felt in more shadowy areas of finance too.
“Highly levered positions in all kinds of corners of the market blow up as volatility increases,” Robin Brooks, a senior fellow at the Brookings Institution, wrote on Substack last weekend. “It looks to me like we’re nearing a breaking point on this front.”
One sector is looking particularly vulnerable: America’s $3tn (£2.3tn) private credit market.
“Shadow banking”, as it is often called, was already in trouble. It was grappling with soaring defaults and a flood of withdrawal requests from investors, motivated by fears about artificial intelligence.
Lloyd Blankfein, a former Goldman Sachs boss, has warned of a “fire” risk in the sector.
Now soaring oil prices are certain to pile on more pain.
More expensive oil will feed through into broad-based inflation, as the price of everything from food to clothing rises. That means higher interest rates and a hammer blow to growth. None of that is good for a sector based on lending money.
“An implosion is still not my base case but it’s something that we just have to be a bit concerned about,” says Timothy Rahill, a credit strategist at ING.
Private credit is a term that covers lending by entities that aren’t banks. Typically, it is done by private equity groups who raise funds from investors.
The sector has been growing exponentially. It has expanded by more than a trillion dollars since 2020 to total $3tn at the end of last year, according to Morgan Stanley. City analysts believe it could reach $5tn by 2030.
But the war in Iran and the resultant energy crisis is piling pressure on the business model.
Many private credit lenders borrow short-term and invest long-term. When interest rates are low and expected to fall, that works. But if they start to rise, then private credit lenders could find themselves paying more for financing than they are earning in interest.
The price of Brent crude has soared nearly 50pc since the war began to more than $110 per barrel. Central banks are now ramping up their inflation forecasts and pouring cold water on previous expectations of interest rate cuts. Many investors are instead now starting to anticipate interest rate rises.
“A month ago, no one was expecting that,” says Brooks. “So that is really destabilising for some of the more vulnerable parts of the financial market here in the US.
“In private credit, we know there are a lot of skeletons in the closet. I think the market is vulnerable.”
The vast majority of borrowing done in private credit is on floating rates, which adjust based on market borrowing costs. Even if the worst that happens is that interest rate cuts are delayed, it will hurt companies that were relying on them to fall, says Zachary Griffiths, the head of macro strategy at CreditSights.
If the war drags on and brings a persistent energy supply shock, private credit risks a double whammy hit. Not only could their own funding costs rise but returns on loans could suffer as the companies they lend to come under more pressure and struggle to pay.
“The fallout from the war, weaker growth, maybe recession and higher inflation and interest rates, that just makes it even more difficult for those highly leveraged companies,” says Mark Zandi, the chief economist at Moody’s Analytics.
“I would expect defaults and maybe at some point bankruptcies. If you’re thinking about what fissure could turn into a fault, could turn into an earthquake, that would be one place to look, for sure.”
Defaults on loans rose from 8.1pc in 2024 to a record high 9.2pc in 2025 among a group of mid-sized companies with no more than $500m in debt monitored by Fitch Ratings.
This number is higher than other measures of private credit default rates because it also includes “shadow defaults” – cases in which creditors have extended debt maturity periods when businesses struggle to pay, or exchanged debt for equity – which do not show up in traditional measures.
The war is coming at the worst time for private credit.
The collapses of subprime auto lender Tricolor and car parts company First Brands last autumn left the private credit businesses that had lent to them reeling from major losses. It also triggered investor jitters about the health of shadow banking loan books.
Jamie Dimon, the JP Morgan boss, warned that there would likely be more “cockroaches”.
Then came fears that the AI revolution would render many of the companies backed by private credit completely obsolete. At least a third of the sector’s lending is to tech but software threatens to be displaced by AI services that can do the same job based on a few simple commands.
Investors have tried to pull $13bn from more than a dozen private credit funds – including those run by BlackRock, Apollo and Morgan Stanley – since the start of the year, according to analysis by Bloomberg. Of this, more than $4.6bn has been trapped by limits on withdrawals.
Shares in private credit firms have tanked. Blackstone, Apollo, KKR and Blue Owl have plummeted by 31pc, 25pc, 30pc and 41pc respectively so far this year.
“What we’re looking at here is a market that is under pressure,” says Rahill.
The outflow of cash has so far been halted by caps imposed on withdrawals – but these caps only last for three months and few expect the stampede of withdrawal requests to end when the cap is lifted.
Sunaina Sinha Haldea, at Raymond James, says: “There is no doubt that the Iran conflict is accelerating the deterioration in impacting investor sentiment, especially retail investor sentiment, which is unfortunately a vicious circle.”
If this drags on for months, funds will haemorrhage huge amounts of cash. Complicating things is the fact that their underlying loans are not liquid. The funds cannot simply cash out to pay redemption requests. They will be forced to turn to lines of credit from US regional banks.
“That is going to put a lot of strain on those banks,” says Rahill.
Before the war in Iran began, the probability that the US would fall into recession in the next 12 months soared from 35pc in January to 49pc in February, according to Moody’s Analytics. This spike was driven by a weak jobs market.
Higher oil prices will raise the probability of a recession even more, says Zandi.
That would be unknown territory for private credit.
“If it morphs into a full-blown recessionary shock, defaults will go off,” says Lotfi Karoui, a multi-asset credit strategist at Pimco. “This would probably be the first real test for the asset class.”
The Covid shock was big but it was accompanied by large-scale government support – and at that time, the private credit sector was only a fraction of the size that it is now.
If the sector suffers any significant failures, there will be shock waves.
“If private credit blows up here in the US, that obviously will have massive spillovers to Europe,” says Brooks.
“Private equity invests heavily in Europe. There’s really just a ton of vulnerability globally from financial stability risks in the US, which always get exported.”
Insurance firms in the US, Europe and the UK also have particularly large exposures to private credit, says Rahill.
The big question is how long the war lasts. Griffiths says: “The longer we are in this situation, the more vulnerable and the bigger risk it becomes to private credit and the overall economy.”