(Bloomberg) — Private loans are a safer bet than risky, publicly traded bonds if the U.S. economy falters, most respondents in the latter Bloomberg Markets Live Pulse said the survey.

Private credit generally involves lending directly to companies at higher rates than the public syndicated bond and loan markets offer. Those who provide such loans say they can gather more information about a borrower by going direct and secure better claims on assets if he struggles to pay. That's part of the reason more than half of the 387 respondents see it as a better place to shelter than junk bonds when the next recession hits.

The MLIV Pulse survey highlights a bearish outlook for high-yield bonds, with debt spreads expected to widen to around 450 basis points over Treasuries in 12 months. That compares to just over 316 bps currently and would mark a decline to levels last seen in the middle of last year, around the time of the 2023 regional banking crisis.

This move to de-risk more public debt markets reflects survey respondents' expectations of an increase in missed debt payments by cash-strapped companies. About 90% of survey participants predict a default rate will continue to rise, as it rose to about 4.7% on US junk bonds, according to S&P Global Ratings. However, most do not expect this to affect financial markets more broadly.

More than 40% said private credit is more likely to perform better on credit over the next 12 months. And that's despite the majority also predicting weaker returns and lower quality on direct loans as competition between lenders intensifies.

Because debt is typically offered at a floating rate, investors benefit when prime interest rates hold up. It also doesn't trade much — if at all — making the loans difficult to value but also less volatile in investors' portfolios when global markets turn volatile.

U.S. junk bonds and leveraged loans have returned about 12% over the past 12 months, compared with a roughly 32% return for the S&P 500. Private debt investors expect to generate returns in the teens without the volatility typically seen in debt publicly traded and stock markets.

The $1.7 trillion private credit boom is drawing criticism — and the attention of regulators — for its lack of transparency and miscalculation of risk. But the preferences highlighted by the survey indicate investors are positioning for an extended period of elevated base rates and volatility in other asset classes.

The concern for some investors is that it's hard to see when borrowers fail to pay on time because lenders can negotiate ways to keep them afloat. This is a particular concern when high-risk companies face higher debt payments, declining earnings and a looming maturity wall. Some fear it is one bubble that can burst, causing pain elsewhere.

On that note, most survey respondents predict that private loan margins and deal quality will decline over the next 12 months as public markets compete more fiercely for business. Issuance of high-yield bonds and leveraged loans has surged this year, with demand from yield-chasing investors helping to make those markets more attractive to buyers of US corporations.

The other in slumber DANGER for credit investors, commercial real estate is only expected to escalate. Asked whether CRE stress will worsen over the next 12 months, roughly three-quarters of respondents said yes.

Of those expressing concern, about half think it will only hurt banks, while the rest also expect it to wreak havoc on other asset classes. Only about a quarter of survey participants expect it to end within the next year.

To contact the author of this story:
James Crombie in New York at (email protected)