Lesson 5 of 6 · 11 min
Risk and return of private debt
Private debt can pay more than traditional bonds, through an illiquidity premium and opportunistic lending, but it carries more default and illiquidity risk, needs specialised knowledge, and its smooth reported returns hide part of that risk.
In short
- Sources of higher return: the illiquidity premium, opportunistic positions in inefficient markets and filling gaps left by banks.
- Most private loans are floating rate: a reference rate such as SOFR plus a spread, so the coupon resets as rates change. Public and private debt share this link to benchmark rates.
- Private debt offers borrowers more flexibility (distinct entry and exit points with lenders) but requires lender expertise in life cycle stage, debt structure and underlying assets.
- Risk ladder: senior private debt = steadier yield, moderate risk; mezzanine = higher return, equity upside, higher risk. Overall riskier than traditional bonds.
- Modelling is hard: poor data quality and artificially smooth returns.
Unlock this lesson free for 7 days
Create a free account to get 7 days of full access — every lesson, video, flashcard, mock and the question bank. No card needed.