*We have used the term private credit, as mortgage backed private lending and private lenders are a form of private credit. This article pertains to mortgage backed private lending in its references to private credit.
Purist private lending Vs private credit funds
Back in the day going to a private lender meant the private lender was willing to accept a higher borrower risk profile to obtain a higher return, providing there was adequate security for their capital. It was purely a no doc, no credit check private loan service based on an LVR against an as is asset value or project value.
Usually, it was the lenders own money or a syndication of people coming together to lend, with lawyers in many instances acting as unofficial fund managers.
Come to 2026 and beyond, private credit is now changing. Most private lenders seem to be like second or third tier non-bank lenders, with credit committees, credit checks and a string of terms that match a second tier and not a private lender.
The catch 22 is that as private credit has grown, borrowers got more options and cheaper capital, and investors got safer places to park funds, but lower returns on standard mortgage products.
So the question becomes, how did we get here?
New private lenders and private credit investment capital
As the demand for private credit grew, new private lenders emerged and the race for raising capital began. Australian Private credit fund managers had to attract more investors but to do so they also had to show they were more credible. Most of them started introducing credit committees, credit checks, credit analysts, valuer panels, investment liaisons and so forth, basically more bureaucracy (similar to that of a bank not a private lender).
The second phenomenon that emerged with the growth of private credit, is that more private lenders started to use warehouse facilities, which came with their own set of rules for capital to be deployed.
So whilst more liquidity entered the system to meet demand, competition also increased and with it the decline of margins across standard mortgaged backed private credit products.
If you compare this to old school direct lending, where people use to lend their own money or a trusted syndicate got together or they used an originator such as us, decisions were quicker and valuations were done in house. That was it, no credit checks or credit committees. The asset value, capacity of the borrower to pay interest and underlying exit strategy were the primary concern.
Ultimately, old school is not better than new school or vice versa, both models hold merit subject to the experience of the investor, loan book size and product type.
Margins also eroded, because of rising building costs, and developers having less margins to work with in Australia. But this is separate discussion.
The benefits of the growth in private credit funds
Business borrowers have more options
Borrowers now have more options than ever, and because of all the competition, mortgaged backed private credit is getting increasingly cheaper for borrowers.
Retail and passive private credit investors have more protection
For investors that don’t wish to manage their own money, or for those investors that do not have the dollar quantum to do direct lending (that we offer at Royce Stone Capital). Private credit funds are a great way to have your funds protected, providing you are dealing with experienced fund managers.
If you’d like to invest in a first mortgage private credit fund or second mortgage private credit fund, speak to us here and we can point you to the right one.
The problem with the growth of private credit
Problem 1: More red tape for business borrowers
With the added layers of protection for investors, more borrowers had to jump through more red tape. Essentially, many private credit firms, ceased to become private lending firms. Credit checks, ATO debts in unrelated entities, missed payments to a bank all became part of the DD process. Business borrowers, in some cases were simply not better off.
The reason borrowers went to private lenders in the first place, was to get straight forward capital if they had adequate security. Purist private lenders are a dying breed, and for those that are still in the game they are directly known, not on a broker aggregator panel.
Problem 2: Reduced returns for private credit investors
Standard first mortgage 65% LVR private loans use to be done at 12% plus p.a., with a 2.2% app fee, now there is capital as cheap as 8% p.a. with a 1.3% app fee on certain deals. Even second mortgage loans that were done at 24% to 28% p.a., are now being discounted to 16% to 24% p.a. as new capital enters the door.
Whilst movements in the cash rate do affect private credit pricing, the margins above the cash rate for first mortgage private credit have been slowly diminishing. More supply, more competition, equals lower pricing.
What all of this has meant, is that for private credit fund managers and their investors to make the same dollar return, they have to focus on volume of deals in a low margin environment. Having to push volume in a low margin environment is where all the problems began, especially for fund managers.
Problem 3: False sense of security for private credit investors
For Private credit fund managers holding onto idle capital is a problem, as investors seek a return and idle funds don’t produce them. So, despite the layers of perceived protection for investors, from “valuations” and “credit committees” some private credit fund managers, especially some in the construction game, started to play games. Where they “influenced” valuations, and in some instances, chose bad projects to fund that made no logical sense.
Selling a $3M penthouse as part of an apartment complex development, in a non-premium suburb, does not make good business sense. But this is where certain fund managers found themselves, stuck with unsellable assets or a capital loss in some instances.
What this meant, was that capital was actually subjected to higher risks than what investors were lead to believe , despite investment mandates and credit committees. All of this emerged as fund managers started to chase deals, in order to make returns.
It is important to note this happened in small number of cases, and that is why it is important you understand who you are working with.
That is why at Royce Stone Capital we don’t run a fund, we have a direct lending model. As deals emerge, we match them with the right investor. If you are interested in investing in a fund, we have a list of fund managers that we deeply trust.
The growth of warehouse funding
As the demand for private credit grew, private credit funds that struggled to get the investment capital they needed to grow their loan books to preserve dollar margins, resorted to using warehouse facilities.
The benefits of warehouse funding
Increased liquidity for lenders
Private credit fund managers now could get access to more liquidity and in turn more borrowers got access to capital, for borrowers that met the specific lending criteria.
Each warehouse provider, whether it be a fund, bank, investment bank or a family office investment has different lending terms. Some are willing to accept more risk, others less risk.
(If you’d like to speak to us who is the right warehouse provider for your fund, contact us here)
Certainty of capital
Private lenders whether they be first mortgage private lenders or second mortgage private lenders, that use warehouse facilities have certainty of funding. Typically, the best way private lenders use warehouse capital, is by blending it in with their own capital. Where the warehouse capital is used for the lower risk portion of the loan, and the higher risk, higher return component is the lenders own money.
The problems with warehouse funding in private credit
Problem 1 the same product repackaged
The first problem with this situation, is that the same warehouse providers are funding multiple lenders. So in essence you have multiple private lenders selling the same product.
Problem 2 strict terms
Warehouse facilities usually come with strict lending conditions, and in some cases credit score requirements. What this means is that private lenders using warehouse facilities, must meet the warehouse provider terms before capital can be deployed.
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To read more about our private credit offerings click here.
