Commentary Corner - Week of July 21-25, 2025

The Fed is back to front and center stage these past few weeks, as the Trump-Powell saga continues to entertain the financial world. It is no secret that President Trump is unsatisfied with the decision of Fed Chair Powell to maintain rates at elevated levels, as the Fed continues its fight to bring down inflation to its target of 2%.

To pressure Powell into lowering rates prematurely, Trump has resorted to a public pressure campaign to coax Powell into cut rates. The goal here isn’t necessarily to physically blackmail the Fed to decreasing interest rates, a mere change in attitude at a Fed press conference is sufficient to lower the interest rate outlook for months to come. The stubbornness of Powell in resisting the attacks only adds fuel to the fire, which has boiled over into mainstream headline news.

In typical Trumpian style, the President has even threatened to “fire” Powell before his term ends in May 2026, if Powell does not acquiesce to his demands of lower interest rates.

Why is Trump so adamant on lowering interest rates? The truth is that lower interest rates will spur economic growth across all sectors of the US economy. Lower interest rates make borrowing cheaper for consumers and corporations, makes it more costly to hold cash, incentivizes investment and re-investment into the economy (in the form of stocks and bonds), all of which make prices go up and to the right. Since the S&P 500 (and related indices) are the preferred gauge of most individuals of the state of the economy, a booming US stock market would be an “accomplishment” that he would then be able to tout as his record.

However, there are a few issues with this approach. Classical economics states that central bank independence is directly correlated with inflation performance. The empirical evidence also supports this theory, historically countries with more independent central banks have achieved greater success in keeping inflation at manageable levels. President Trump’s attacks not only challenge the core tenet of Fed independence, it also undermines the Fed’s credibility as the de facto watchdog and regulator of financial and economic markets. While achieving lower rates may be beneficial to asset prices (particularly capital markets) in the short term, the eroded confidence in the central bank’s ability to manage interest rates independent of political pressures will come back to haunt them in the long term.

Will President Trump be successful in evicting Powell from the Fed chair position before his term ends in 2026? The most likely answer is no. Changes of this magnitude don’t happen overnight, and it’s expected that yields on US treasuries will jump 50-100bps immediately if Trump is successful in removing Powell. The markets aren’t the only ones who are vocally outspoken against the move, executives at multiple prominent US banks (e.g., JP Morgan, Bank of America, etc.) have publicly denounced the move as unreasonable.

Executives at financial institutions don’t necessarily fear the possibility of a dramatic shift in central bank policy overnight (highly unlikely), but rather the action of removing the Fed Chair prematurely sets a dangerous precedent that undermines confidence within the Fed. Financial institutions, whether banks, insurance companies, or asset managers, all thrive in an macro environment that is predictable, stable, and trending upwards. Removing the Fed chair would inject further uncertainty into an already chaotic and unpredictable macro environment.

In another part of the economy, JP Morgan CEO Jaime Dimon is playing both sides of the table when it comes to private credit. Private credit refers to the lending of capital that happens outside of the traditional banking system. It is typically done on a one-to-one (bilateral) basis between the borrower and the lender and is becoming increasingly popular as a tool for alternative asset managers (e.g., Blackstone, KKR, Apollo) to scale their AUM.

Post Great Financial Crisis (“GFC”), the industry has grown exceptionally fast, surpassing $1.5 trillion by early 2024 and expected to double by 2028 (per Morgan Stanley). As astonishingly large as it currently stands, the real size of the “private credit” market is much larger than this figure.

The $1.5T mentioned above mainly refers to sponsor-backed corporate direct lending. This means that these are loans directly made to PE-owned companies, typically created when a private equity firm (the sponsor) wants to acquire a business through the leveraged buyout process. Instead of taking on debt from the bank, the sponsor will acquire the debt from a private credit lender instead. There are several advantages to this approach of using private credit, specifically that private credit lenders offer speed, scale, certainty of execution, and flexibility of covenants that make the terms more attractive to the borrower. Despite private credit loans being typically more expensive than comparable bank loans (i.e., 50-100bps wider – meaning 0.5%-1% higher all-in rate), the flexibility and customization that they offer make them a compelling alternative for PE sponsors looking to diversify their sources of financing in an LBO.

This definition above is what is currently being accepted as the “private credit” market. However, there is a much larger universe of “private credit” assets out there, estimated to be $20 trillion in size (per PIMCO), commonly referred to as asset-based finance (“ABF”). These are loans (or similar credit-like instruments) that are backed by pools of specific assets instead of a corporation. When you lend money to a corporation (in direct lending), you are underwriting the ability for the corporate borrower to pay, i.e., its creditworthiness. In asset-based lending, the collateral is a pool of tangible assets (e.g., auto loans, mortgages, consumer loans, credit card receivables, etc.), and your loan is secured by those assets. They are typically ring-fenced by an SPV structure, meaning that even if the manager that set up the structure goes into bankruptcy, your assets will not be touched as they are separate from the management company.

Asset-based finance is a fascinating part of the credit world as it primarily focuses on financing “Main Street” – everyday people like you and me. The cars you purchase may have been financed by an auto loan. Your house is financed by a mortgage. Your credit card debt is held at the bank as a credit card receivable. Airlines use aircraft financing to “rent” their fleet of airplanes. Transportation companies use fleet financing to purchase and rent their vehicles. It touches all aspects of the “real” economy and goes well beyond the boundaries of traditional corporate lending.

The astronomical growth of the private credit sector has spooked regulators in recent years. The main reason is that direct lending looks eerily like the lending that happens at traditional financial institutions (e.g., banks, specialty finance companies such as BDCs, etc.), but the private credit industry is more opaque and less regulated. Since deals are done on a bilateral basis, private credit lenders aren’t required to disclose the details of their portfolios, or if they do, not to the extent that the banks are required to for regulatory purposes. Private credit funds are also not required by law to hold a minimum amount of “excess reserves” (first-out loss absorbing capital) in the event of defaults in the portfolio. All these details above have prompted regulators to call upon a higher degree of regulation within the private credit industry, as they deem it to be just as risky as the banking sector, but unregulated at the current moment.

My personal opinion is that their judgement is misguided. Lending will happen in a healthy economy regardless of where the capital comes from. In the words of Apollo CEO Mark Rowan, credit (money lending) can only come from one of two sources – the banking industry or the investment marketplace (e.g., debt capital markets, private credit firms). Regulators are faced with a choice: capital can either be sourced from the banks or from the investment marketplace, there is no third option.

Considering that banks are typically 10-12x levered (e.g. if a bank has a 10% reserve ratio – they create $100 of loans on every $10 of deposits, inherently 10x levered), and that private credit funds are 1-1.5x levered, moving capital away from the banking industry and into private credit funds has a deleveraging effect on the total economy – highly desirable from a regulator’s perspective. While this transition presents its own set of new challenges (e.g., illiquidity concerns, valuation risk, etc.), the details of these issues are beyond the scope of this commentary and will be discussed in future writing.

The banks aren’t sitting idle, either. Goldman Sachs has recently created a private credit group called the Capital Solutions Group designed to offer comprehensive financing, origination, and structuring services to borrowers. JP Morgan has recently created a private credit investing group within their asset management arm, designed to offer an alternative form of financing to their borrowers. Clients of JP Morgan can now choose to borrow through the traditional broadly syndicated loan (“BSL”) channel or obtain more flexible and customizable terms through its private credit lending arm. As much as JP Morgan’s CEO Jaime Dimon is outspoken about the dangers of private credit, his firm’s actions indicate that the bank is eager to regain the market share that they have lost in the past decade to private credit firms. Firms like GS and JPM are also getting in on the private credit action through lending directly to private credit firms, in a process called “back leveraging”. By lending directly to private credit firms (to then make loans to companies), the banks can profit from a stable source of income without the risk of lending directly to individual companies (the risk that private credit firms take on).

Dimon has long called private credit a ‘bubble’. It seems that the bubble will continue for now, and the incentives are too appetizing that even he can’t resist. But true to his form, he’s also building up a war chest in the background, such that if the bubble ever does pop, JPM will be ready to pick up the bargains at wholesale discounts. All of which is a moot point because as of right now, the private credit train is chugging along, full steam ahead. And so, the show must go on…