Is Private Credit in a Bubble? What the Headlines Miss About Small First-Lien Funds
The private credit warnings are about large, levered corporate lending with loose covenants. Which of those criticisms apply to small real estate funds, and which do.
What the warnings are actually about
The word "bubble" is doing a lot of work in a debate about a market that contains at least five distinct businesses. When a regulator or an international body raises a concern about private credit, the subject is almost always the same thing: senior and unitranche loans to mid-sized companies, originated by large non-bank managers, often to borrowers owned by private equity sponsors, frequently at floating rates, and increasingly financed with borrowed money at several levels of the structure.
The specific criticisms are:
Growth outrunning discipline. The asset class has expanded rapidly into borrowers who would previously have been bank clients or not financed at all, and rapid growth in credit has historically preceded weaker underwriting.
Leverage on leverage. Funds borrow, the vehicles that hold fund interests borrow, banks lend to the funds, and the same underlying loan can support several layers of claim.
Covenant erosion. Competition for deals has stripped out the maintenance tests that used to give lenders early warning and a seat at the table.
Payment-in-kind interest. A borrower who cannot pay cash can add interest to principal instead. Income keeps being recognised while cash does not arrive.
Manager-set valuations. With no observable market price, assets are marked to a model the manager controls, and marks tend to move slower and more smoothly than reality.
Opacity and retail distribution. The exposures are hard for outsiders to aggregate, and the investor base now includes individuals through semi-liquid vehicles.
The IMF's April 2024 Global Financial Stability Report devoted a full chapter to this ("The Last Mile," Chapter 2, "The Rise and Risks of Private Credit"), sizing the market at roughly $2 trillion and warning that borrowers in this space tend to be smaller and more leveraged than public-market comparables, that the sector has not yet been tested by a severe downturn at its current size, and that manager-set valuations move more slowly and smoothly than a stressed market would justify — language the IMF used to call for closer supervisory attention.
The Federal Reserve's Financial Stability Report has tracked the bank side of the same exposure: bank lending to nonbank financial institutions, which includes private credit funds, roughly doubled from about $500 billion in January 2019 to $1 trillion in January 2024, and the Fed's May 2025 staff note on bank lending to private credit flagged interconnectedness with other nonbanks, leverage, and liquidity mismatches as the vulnerabilities worth watching.
Those are not fringe concerns, and this post does not argue with them. It argues about their scope.
Taking each criticism seriously
Each of these deserves to be stated at its strongest before anything is said in response. A criticism you have restated weakly is one you have not answered.
Leverage on leverage
The case: The visible loan-to-value or loan-to-EBITDA of an individual loan understates the true leverage in the system, because the fund holding it borrows against it, and the bank lending to the fund is itself levered. When collateral values fall, margin calls propagate through a chain nobody has mapped, and forced selling begins in a market with no buyers. This is the mechanism by which an ordinary credit cycle becomes a liquidity event.
The response: There is no response. The criticism is correct as a description of how leverage works, and the only variables are how much is used, on what terms, and whether the investor knows. A fund that borrows is more fragile than the same fund that does not.
Covenant erosion
The case: Maintenance covenants exist so a lender learns about deterioration in quarter two rather than quarter six. Competition for deals stripped them out. A covenant-lite lender is a spectator until a payment is missed, by which point the value available to recover has already been consumed.
The response: Also correct, on its own ground. The reasonable observation is that covenants are the primary protection where the collateral is an operating business whose value can evaporate between reporting dates. That is a real distinction, not a rebuttal.
Payment-in-kind interest
The case: PIK interest lets a borrower who cannot pay avoid the appearance of not paying. The fund books income, the investor receives a yield figure, and no cash changes hands. Rising PIK balances across a portfolio are the clearest available signal that reported returns and realised cash flows have separated.
The response: None on the merits. An investor in any credit fund should ask what share of income was received in cash and what share was accrued.
Manager-set valuations
The case: When there is no market price, the manager chooses the mark, and the manager's fees, reported performance and fundraising all depend on that choice. Even honest managers face a structural incentive to be slow in marking down. Smooth returns are not evidence of low risk; they can be evidence of infrequent measurement.
The response: This one has real force everywhere in private markets, including here. Valuation discretion is not eliminated by collateral. It is narrowed.
Growth and the retail investor
The case: Capital has flowed in faster than good loans have been created. When that happens, standards fall, because managers with money to deploy and a target return to hit find reasons to say yes. Meanwhile the investor base has widened to individuals who may not have modelled what an illiquid, unmarked, levered credit portfolio does in a bad year.
The response: Fair, and it is a reason for scepticism about any manager, of any size, who is growing quickly. Including a small one.
Which of them apply to a small first-lien real estate fund
Honestly, sorted by how much they apply.
Leverage: applies fully. Matador Note Fund 1 LLC may use a note-on-note credit facility within the limits of the PPM. If we do, the risk described above is our risk too. The specific mechanism in a mortgage fund is the borrowing base: when loans go past maturity or into default they become ineligible collateral, the base shrinks, and the facility demands a paydown exactly when cash flow has slowed. Anyone evaluating this fund should read the leverage limits and ask what is drawn today.
Valuation discretion: applies partly. Our assets are loans, carried at amortised cost rather than marked to a model, which removes one layer of discretion. It does not remove all of it. The manager decides when a loan is impaired, whether an extension is an accommodation or a distress signal, and what the collateral is worth in a workout. That collateral value comes from an appraisal or a broker price opinion, which is an estimate. A manager who wants a portfolio to look calm has ways to make it look calm.
Opacity: applies, differently. Small funds are not opaque because of complexity; they are opaque because there is no public reporting, no rating and no third party aggregating exposures. The mitigation is loan-level disclosure to investors, and the question to ask is whether you can see the individual loans.
Covenant erosion: mostly does not apply. A fix-and-flip loan has no EBITDA to test. Protection comes from lien position, advance rate, maturity, personal guarantees and draw controls that release renovation funds only against inspected work. Those cannot erode quietly the way a covenant package can, because they are set at origination and visible in the loan file. What can erode is the advance rate, which is why portfolio LTV over time is worth tracking.
PIK interest: usually does not apply. Our loans are generally interest-only with a balloon, paid in cash monthly. The analogous risk is the serial extension, a loan rolled repeatedly so it never technically defaults. The honest question is the same in spirit: what share of the book is past its original maturity date?
Mark-to-model: far less relevant. The collateral is a specific property at a specific address that can be appraised, inspected and sold. Duration is short, so loans resolve into cash frequently, which tests the marks whether the manager wants them tested or not. A loan book with an 11-month median term validates itself faster than a portfolio of seven-year corporate loans.
Which risks are worse in a small fund
The previous section is the comfortable one. This is the other side, and it is the reason to keep reading rather than the reason to stop.
Concentration. Matador Note Fund 1 LLC has a $5,000,000 maximum committed equity and a $50,000 minimum investment. At $5 million with a typical loan size, the fund holds a small number of loans. A $250,000 loan is 5% of capital. The concentration rule of no single loan above 20% of fund capital only takes effect once the fund holds $20 million or more, which means that before that point the concentration limit is the manager's judgement rather than a document. A large diversified fund can absorb a bad loan statistically. A small fund absorbs it arithmetically, one loan at a time. This is a genuine structural disadvantage and no amount of underwriting quality removes it.
Geographic concentration. We lend in Texas only. That buys local knowledge, the ability to inspect a property the same week, and familiarity with Texas foreclosure procedure. It also means every loan in the portfolio is exposed to the same state economy, the same insurance market, the same weather and the same employment base. A diversified national lender does not have that problem. We have chosen it deliberately, which does not make it less of a risk.
Key person. This is the largest one. The underwriting judgement, the borrower relationships, the workout experience and the local market knowledge sit with a small team, and substantially with one person. A large manager has an investment committee, a documented process and succession. If I am unavailable for six months, this fund's operations are materially affected in a way that a $10 billion manager's would not be. Ask how a small manager handles that, and treat a vague answer as an answer.
Thinner infrastructure. Large managers have dedicated compliance, independent valuation functions, separate servicing operations, internal audit and layers of review between the person who wants a deal done and the person who signs off. A small fund has fewer people wearing more hats. Less bureaucracy is genuinely faster; it also means fewer independent checks on the same judgement.
No audited fund history. This one deserves to be stated precisely. What we can point to is the manager's own lending record: 60 Texas loans funded since October 2019, $13.3 million in principal, $1.66 million in interest earned, 55 repaid on schedule, four foreclosures and one deed in lieu, and total principal lost across all 60 loans of under $50,000, less than 0.4% of principal funded. Those loans were funded by Matador Lending LLC, Matador Note Fund 1 LLC and affiliates. That is a lending record, not audited fund performance, and the distinction is not a formality. It is a track record across a period in which Texas values generally rose, in a sample of 60 loans, which is small, and it has not been examined by an auditor. Any reader should weight it accordingly.
Scale in a workout. A large lender foreclosing on one property among hundreds has a department for it. A small lender doing the same is diverting the people who would otherwise be underwriting new loans. Workouts cost small managers more, in attention if not in dollars.
The questions the debate should make you ask
Use these on any private credit offering, this one included.
What exactly am I lending against? An operating company's cash flow, a specific property, or a pool of other loans?
What is my lien position on every asset, and is there anything ahead of me including tax liens?
Does the fund borrow? How much, on what terms, and what triggers a demand for repayment?
How are assets valued, who performs the valuation, and does anyone independent of the manager check it?
What share of last year's reported income arrived in cash?
What share of the loan book is past its original maturity date, and how many extensions were granted?
What is the largest single position as a share of capital?
What is the track record, and is it audited fund performance or a manager's own record?
Who makes the credit decisions, and what happens if that person is gone?
What are the exact liquidity terms, and has a gate or suspension ever been used?
What would have to be true for me to lose money, and what does the manager think is the most likely path to that?
Question 11 is the one that reveals the most. A manager who cannot describe their own loss path in specific terms has either not thought about it or does not want to.
What we would want to see before investing in us
If the roles were reversed and I were the accredited investor reading this page, here is what I would insist on before wiring anything.
I would read the Private Placement Memorandum and the Operating Agreement in full, including the risk factors, and I would treat the summary on any website, including ours, as marketing rather than as terms. The documents govern.
I would want the loan-level schedule: every loan, its balance, its LTV, its origination date, its original maturity and its current maturity. Then I would count how many are past the original date.
I would want the 8% preferred return explained back to me with the word non-cumulative in the sentence. It means a quarter that is missed is not made up later. I would want to know what has to happen for a quarter to be missed.
I would ask what is drawn on any credit facility today and what the advance rate and eligibility criteria are.
I would ask to see the five workouts in detail: what was lent, what was recovered, how long it took, what it cost, and specifically what happened in the two that did not return principal in full.
I would want a straight answer on key person risk and on what happens to the fund if the manager cannot continue.
I would confirm the lock-up arithmetic for myself: 24 months, then a written request with 90 days' notice, processed quarterly at up to 25% of balance per quarter, subject to fund liquidity. Then I would work out the worst case for money I might need.
And I would make sure I could lose the entire investment without it changing my life, because that is the condition under which this asset class is appropriate at all. The target total return of 8% to 12% annually is a target, not a projection, and a first lien is a claim on a property, not a guarantee of repayment.
Frequently asked questions
Q: Is private credit a bubble?
A: Private credit is not one asset class, so the question cannot have one answer. The warnings from regulators and international bodies concern large, leveraged corporate direct lending, where spreads have compressed, covenants have loosened, payment-in-kind interest has grown and valuations are set by managers rather than markets. Those conditions describe a specific segment. A short-duration first-lien mortgage against Texas real estate is a different instrument with different failure modes.
Q: Why are regulators worried about private credit?
A: The concerns are concentrated in four areas: rapid growth into borrowers who could not access bank lending, layered leverage between funds, banks and vehicles, weakened lender protections in loan documents, and valuations that are modelled by the manager instead of observed in a market. Add limited transparency and a growing retail investor base, and the worry is that stress appears late and all at once.
Q: Is real estate debt the same as private credit?
A: Real estate debt is a segment of private credit, not a synonym for it. Both are non-bank lending sold to institutional and accredited investors. The collateral differs fundamentally: corporate direct lending is secured by an operating business and its cash flows, while a first-lien real estate loan is secured by a specific, appraisable, foreclosable property. Recovery in a default works nothing alike.
Q: What is covenant-lite lending?
A: A covenant-lite loan lacks maintenance covenants, the ongoing financial tests a borrower must pass every quarter. Without them, a lender cannot force a conversation when performance deteriorates and may not learn of trouble until a payment is missed. The concept mostly belongs to corporate lending. A real estate loan's protections are structural instead: lien position, advance rate and maturity.
If you want to put the eleven questions above to us directly, including the ones about concentration, key person risk and the two workouts that did not return principal in full, book a call. Accredited investors only.
Important disclosures. This article is for informational purposes only and is not an offer to sell or a solicitation of an offer to buy any security. Any offer is made only through the Private Placement Memorandum, Operating Agreement and Subscription Agreement of Matador Note Fund 1 LLC, which govern in all cases and should be read in full, including the risk factors. Interests are offered only to accredited investors as defined in Rule 501 of Regulation D, pursuant to Rule 506(c); accredited status must be independently verified. Real estate debt investments involve significant risk, including possible loss of principal. The 8% preferred return is non-cumulative and is payable only from available distributable cash at the manager's discretion; it is not guaranteed. The 8–12% figure is a target objective, not a promise or projection of results. Targeted returns are not guarantees of future performance, and past performance is not indicative of future results. Figures describing prior lending are the manager's own lending record and are not audited fund performance. Nothing here is legal, tax or investment advice. Matador Lending LLC is not a registered investment adviser.