Private Credit & Direct Lending in the UK: A Retail Investor's Guide

Private credit refers to non-bank lending to companies or projects, arranged directly between the lender and the borrower without the use of a public market. Over the past decade, it has grown from a niche strategy into a significant global asset class, estimated to be worth over $2 trillion. This expansion was driven by structural shifts in finance, particularly the retrenchment of traditional banks from corporate lending following the 2008 financial crisis and subsequent capital adequacy regulations.

The market is characterised by its diversity, encompassing a wide range of lending strategies. These include direct lending to medium-sized enterprises, financing for real estate and infrastructure, and more specialised forms of funding like asset-based lending. For borrowers, private credit provides a flexible, reliable, and often faster source of capital than is available from banks or public debt markets.

For investors, the asset class offers the potential for higher yields compared to public fixed-income securities, regular income streams, and diversification benefits. The loans are typically floating-rate, providing a natural hedge against inflation and rising interest rates. As this market matures, new structures are emerging in the United Kingdom to provide retail and advised investors with access to an asset class that was once the exclusive domain of institutional capital.

For corporate borrowers, particularly the small and medium-sized enterprises (SMEs) that form the foundation of the UK economy, private credit offers a compelling alternative to traditional bank financing. Lenders in this market can offer more flexible terms, faster execution, and a greater certainty of funding. In an environment where banks have become more risk-averse, private credit funds can underwrite loans tailored to a company's specific needs, whether for growth, acquisition, or refinancing.

From the investor's perspective, the primary attraction is the potential for enhanced returns. Private credit funds typically target a yield premium over comparable public debt instruments. This premium, often estimated in the range of 200 to 400 basis points (2-4%), is known as the illiquidity premium. It is the compensation investors receive for holding assets that cannot be easily or quickly traded on a public exchange.

Furthermore, the majority of private credit loans are structured with floating interest rates. This means the coupon paid by the borrower adjusts periodically based on a benchmark rate, such as the Bank of England's Base Rate. In the interest rate environment of 2024-2026, where rates have settled at a higher level than in the previous decade, this feature has proven highly attractive, delivering increased income to investors as central bank rates rise.

The private credit market is not monolithic. It comprises several distinct strategies, each with its own risk and return profile. Understanding this segmentation is the first step for any prospective investor in familiarising themselves with the opportunities available.

The main strategies can be categorised as follows:

• Direct Lending: This is the largest segment of the market. It involves providing senior secured loans to mid-market companies. Often, this lending is 'sponsor-backed', meaning the borrower is owned by a private equity firm. Loans are typically used for acquisitions or to fund growth.
• Asset-Based Lending: Here, credit is extended against specific collateral, such as inventory, equipment, or accounts receivable. The value and quality of the underlying assets are the primary consideration for the lender.
• Specialty Finance: A broad category that includes more niche forms of lending, such as litigation finance, royalty finance, or lending against intellectual property.
• Real Estate and Infrastructure Debt: This involves providing loans for the acquisition, development, or refinancing of property and critical infrastructure projects. These are long-term assets that can provide stable, predictable cash flows.
• NAV Financing: Net Asset Value (NAV) financing involves lending to investment funds, with the loan secured against the fund's portfolio of investments.
• Distressed or Opportunistic Debt: This higher-risk strategy involves purchasing the debt of companies in financial distress at a discount, often with the aim of taking control of the company through a restructuring process.

A defining feature of private credit, particularly in the direct lending space, is the prevalence of floating-rate loan structures. Unlike fixed-rate bonds, where the coupon is set for the life of the instrument, the interest on a floating-rate loan resets periodically. Typically, the rate is composed of a base rate, like the UK's Sterling Overnight Index Average (SONIA), plus a fixed credit spread (e.g., SONIA + 5.5%).

This mechanism has a significant impact on investor returns in different monetary policy cycles. During the era of near-zero interest rates, private credit still offered a positive yield due to the credit spread. However, as the Bank of England raised its base rate through 2023 and maintained a higher-for-longer stance into 2025, the income generated by these loans increased directly and immediately. This has made private credit a sought-after asset class for income-focused investors during periods of rising rates or persistent inflation.

The calculus for borrowers has also changed. While new loans in 2024-2026 were 'more expensive' in absolute terms, the stability of the lending relationship and the bespoke nature of the financing continued to be attractive. For investors, the higher base rates have translated into some of the highest all-in yields seen in over a decade, with many senior secured loan portfolios offering yields in the high single or low double digits. This has provided a substantial cushion against potential credit losses.

While the yields are attractive, private credit is not without risk. Investors must understand the credit quality of the underlying borrowers and the protections in place. A key tool for risk mitigation is the use of covenants. These are conditions included in the loan agreement that the borrower must maintain, such as limits on its total debt or requirements to maintain a certain level of profitability. Covenants act as an early warning system, allowing lenders to intervene if a borrower's financial health deteriorates.

A significant portion of the direct lending market focuses on senior secured loans. This means the lender sits at the top of the capital structure, and the loan is backed by a claim on the borrower's assets. In the event of a default and subsequent bankruptcy, senior secured lenders have the first claim on any proceeds from the liquidation of those assets. This seniority is a critical factor in determining the ultimate recovery rate.

According to data from sources like the UK's British Private Equity & Venture Capital Association (BVCA) and global credit rating agencies, historical annual default rates for private credit have been low, often in the 1-3% range. More importantly, recovery rates for senior secured loans have historically been high, often between 70% and 90%. While past performance is no guarantee, this demonstrates the resilience that structural protections can provide through a credit cycle.

For UK retail investors, one of the most established routes into private credit is through listed investment trusts on the London Stock Exchange. These are closed-end investment companies whose shares are traded just like any other public company. They offer daily liquidity for investors, although the share price may trade at a premium or, more commonly in recent years, a discount to the underlying Net Asset Value (NAV) of the portfolio.

The UK market features a number of specialist trusts focused on different segments of the credit universe. For example, BioPharma Credit PLC (BPCR) specialises in debt linked to the life sciences and pharmaceutical sectors. Others provide broader exposure:

• GCP Asset Backed Income (GABI) invests in a diversified portfolio of asset-backed loans, often with social or environmental benefits.
• Sequoia Economic Infrastructure Income Fund (SEQI) and SDCL Energy Efficiency Income Trust (SEIT) focus on debt financing for infrastructure projects, providing stable, long-term income streams.
• RM Infrastructure Income (RMII) targets secured, long-term, inflation-linked loans made to UK infrastructure and real estate assets.

Investing in these trusts requires analysis of not only the underlying loan portfolio but also the discount to NAV, the level of leverage used by the trust, and the management fees. The persistent discounts seen in 2024 and 2025 offered a potential entry point for new investors, effectively allowing them to buy into portfolios of loans at less than their assessed value.

A more recent innovation in the UK investment landscape is the Long-Term Asset Fund (LTAF). Authorised by the Financial Conduct Authority (FCA), the LTAF is a new type of open-ended fund structure specifically designed to facilitate investment in illiquid assets, such as private equity, infrastructure, and private credit, for a broader range of investors, including retail clients with appropriate advice.

Unlike listed trusts, which have a fixed number of shares, LTAFs can create and cancel units to meet investor demand. However, to manage the underlying illiquidity, they feature longer notice periods, less frequent dealing days (e.g., monthly or quarterly), and other mechanisms to ensure orderly redemptions. This structure aims to solve the mismatch between the liquidity offered to investors and the illiquidity of the underlying assets, a problem that has challenged other types of open-ended property and infrastructure funds.

Major asset managers, including Schroders and Aviva, have been among the first to launch LTAFs, with private credit being a core component of their strategies. The FCA's expansion of distribution rules in 2024 to allow broader access signaled a clear regulatory intent to 'democratise' private markets. For investors, the LTAF offers a professionally managed, diversified entry point that avoids the issue of share price discounts to NAV, as units are dealt at a price directly reflecting the value of the underlying assets.

The Innovative Finance ISA (IFISA) allows individuals to use their annual ISA allowance to invest in debt-based securities and receive tax-free returns. This wrapper is primarily used for investments made via peer-to-peer (P2P) lending and direct lending platforms, which connect investors (lenders) directly with borrowers.

These platforms vary in their model and underlying asset focus. Some, like Assetz Capital (now focused on institutional funders but with a historical retail presence) and CrowdProperty, centre on lending for property development and bridging finance, with loans typically secured against the property assets. Others, such as Loanpad, focus on a portfolio of shorter-term, asset-backed loans and often include their own 'first loss' capital to protect investors up to a certain threshold.

It is crucial to recognise the difference between these platforms and a diversified credit fund. With an IFISA platform, you are often investing in specific loans or a curated portfolio, meaning concentration risk can be higher. Due diligence on the platform's underwriting standards, track record, and default and recovery procedures is essential. The collapse of some P2P platforms in previous years serves as a stark reminder of the importance of platform viability. The IFISA can be a powerful tool, but it requires a hands-on approach to risk management.

Incorporating private credit into a balanced portfolio requires careful consideration. It should be viewed as a satellite holding, complementing a core of traditional public equities and bonds. Its primary role is to enhance income and provide diversification, given its low correlation with many other asset classes. An allocation of 5-15% might be considered, depending on an individual's risk tolerance and time horizon.

Due diligence is paramount. When evaluating a listed credit trust, an investor should read the annual reports, understand the top 10 holdings, review the dividend history and coverage, and assess the manager's track record. For an LTAF, the focus should be on the fund's stated strategy, fee structure, and the experience of the asset management team. For IFISA platforms, the emphasis must be on the underwriting process, the nature of the security taken, and the platform's own financial health.

Diversification within a private credit allocation is also key. Rather than concentrating on a single trust or platform, an investor might consider blending exposures. This could involve combining a listed trust focused on infrastructure debt with another targeting mid-market corporate lending, or perhaps using an IFISA for shorter-duration, asset-backed property loans. This approach helps to smooth returns and mitigate risks associated with any single sector or manager.

Private credit has cemented its position as a core component of institutional portfolios, and the channels for UK retail investors to access this market are now more established than ever. The yields on offer, combined with the inflation-protecting qualities of floating-rate structures, make for a compelling proposition in the current economic climate. Whether through listed trusts, the new LTAF structure, or direct lending platforms via an IFISA, investors have a range of tools to gain exposure.

However, the higher potential returns come with specific risks that must be understood and respected. The primary risk is credit default, where a borrower fails to repay its loan. While structures and covenants are designed to mitigate this, they cannot eliminate it. The second key risk is illiquidity. With the exception of listed trusts (which have their own market risk), capital is typically locked up for the life of the loan or the term of the fund. Investors must be confident they will not need to access their capital at short notice.

The coming years will test the resilience of the asset class as the higher interest rate environment pressures corporate balance sheets. Careful selection of experienced managers and well-structured, diversified products will be crucial for working through the opportunity successfully.