Private credit vs. traditional lending: 7 key differences investors should understand

Traditional lending, primarily offered by banks relies heavily on deposits. Banks pool customer savings and use these funds to extend loans, adhering to strict regulatory frameworks.

Conversely, private real estate credit is provided by non-bank entities such as private funds, asset managers and investment firms (like Ark Capital). These entities source capital from investors, superannuation funds or institutional clients, allowing them to operate with greater flexibility in loan structuring.

In Australia, the private credit market has grown to an estimated AUD $40 billion, representing about 2.5% of total business debt. This reflects its appeal as an alternative funding source amid tighter banking regulations.

Private credit is characterised by bespoke solutions. These loans often include customised terms, making them ideal for borrowers with unique or complex financial needs such as real estate developers. Traditional lenders, on the other hand, offer standardised products that may not accommodate specific borrower requirements.

For investors this flexibility translates to opportunities for higher returns. Private credit investments typically yield 8% to 12% annually, outperforming returns from many traditional fixed-income assets.

Private credit transactions are often faster and more accessible for borrowers compared to traditional loans. This is because investment firms like ours can bypass the bureaucracy and internal fixed lending parameters of banks, while still assessing and mitigating risk. This speed is especially valuable for real estate or time-sensitive deals, where quick access to capital can be critical.

Meanwhile, traditional lenders often require extensive documentation and layered approvals which can delay funding. This efficiency in private credit makes it attractive to borrowers.

Private credit can involve higher risk because it often caters to borrowers with non-traditional credit profiles including startups or companies undergoing restructuring. However, this risk is mitigated by mechanisms such as senior loans secured by registered mortgages and other security.

In contrast, traditional lenders favour borrowers with robust credit histories and stable financials, limiting exposure to defaults. While this conservatism reduces risk it also caps potential returns for investors. Notably, the default rate for private credit loans is around 2.3%, significantly lower than high-yield corporate bonds, which hover around 5.8%.

The regulatory frameworks for private credit and traditional lending differ significantly. Banks must adhere to strict regulations including capital adequacy requirements and reserve ratios. These safeguards ensure financial stability but limit the flexibility banks can offer in their lending products.

Private credit operates outside these constraints which allows for innovative financing solutions. However, this also means fewer consumer protections compared to bank loans, making due diligence crucial for investors and borrowers alike, which is something we take very seriously at Ark Capital in addition to deeply active investment management.

One notable example occurred in April 2023 when a developer defaulted on a loan. Guided by our deeply active investment management approach, we stepped in early, working closely with the borrower to ensure the project’s completion. This hands-on involvement protected investor capital, delivered full repayment of the loan and all accrued interest, including an additional 500 basis points in penalty interest.

At Ark, we do more than monitor, we work diligently to turn challenges into outcomes. Our goal is to preserve value and maintain momentum for our investors and we do this by always managing risk decisively.

Private credit offers diversification benefits due to its low correlation with public equity and bond markets. For investors this provides additional stability of income in volatile economic conditions. For instance, private credit has maintained higher returns with lower volatility compared with major stock indices, helping to buffer portfolios against downturns. 

The private credit market globally is experiencing rapid growth, including in Australia. This growth is driven by a combination of factors including  

• tighter banking regulations post the global financial crisis 
• the rise of middle-market borrowers seeking alternative financing, and  
• increasing investor demand for high-yield opportunities.

For investors, private credit offers something different including higher return potential, income diversification and access to a growing, dynamic market. 

As always, the right opportunities require deep expertise and active risk management. At Ark Capital, we specialise in exactly that. 

Curious how private credit could work for your portfolio? Get in touch to explore your opportunities.