Risk Does Not Disappear

Credit markets have become very good at moving risk around. A bank can make a loan and transfer some of the loss risk to an outside investor. Corporate loans can be packaged into a CLO, with different buyers taking different layers of exposure. Mortgages, credit cards, auto loans, and consumer receivables can be securitized, while private credit funds can lend directly to companies that might once have borrowed from banks or the public loan market.

All of this can be useful. At its best, structured credit directs risk to investors who understand it and are willing to hold it. A pension fund, an insurer, a hedge fund, a CLO, and a bank do not all need the same exposure, and markets work better when different investors can choose risks that fit their balance sheets.

But there is a simple rule advisors should keep in mind: credit risk does not disappear, it moves.

Think of a balloon. If you squeeze one part, the air must go somewhere else. The part you squeezed may look safer, but the pressure has not left the balloon; it has simply moved to another section. If that other section is strong enough, the system holds. If it is thinner latex, or if no one is watching where the pressure went, that is where the break can happen.

That is how we think about modern credit transfer. When a bank sells or hedges credit risk, the question is not only whether the bank reduced its exposure, but who owns the risk now. Is it held by permanent capital that can absorb losses without being forced to sell? Is it held by a levered vehicle that may need financing exactly when markets are least willing to provide it? Is the risk transparent, or has it moved somewhere investors only see the full picture after something has gone wrong?

Some of this is very old. A company’s equity (first-loss piece) takes losses before its bonds (senior claims), and senior lenders have a different claim than subordinated lenders. That is the foundation of corporate finance. What is newer is the number of ways credit markets can now slice, transfer, finance, and repackage similar risks across securitizations, CLOs, synthetic risk transfers, private funds, and other vehicles.

The senior investor may be well protected because junior investors are absorbing the first losses. That is not magic; it is familiar capital-structure logic applied through a more complex set of channels. The key is whether the first-loss investor is being paid enough, has enough staying power, and understands what could happen in a weaker economy.

The same idea applies to private credit. A private loan can be well underwritten, well structured, and appropriate for the right investor, but private does not mean safer. It often means less frequent pricing, less public information, and fewer outside signals to read, which can make reported returns look steadier even when the underlying credit risk has increased.

None of this means structured credit is bad, or that risk transfer is a problem by itself. Properly designed structures can make credit markets more resilient by spreading risk beyond the banking system and matching it with investors who want it. The danger comes when investors confuse movement with disappearance. To return to the balloon, letting pressure out of one section is not the same as letting air out of the balloon.

For advisors, the takeaway is straightforward. You do not need to know every detail of every CLO waterfall, synthetic risk transfer, private credit facility, or securitization document to serve clients well. But you do need an investment manager asking the right questions: where do losses land, who finances that investor, how liquid the exposure is, and is the spread enough compensation for the risk. That is where Curasset comes in. Our job is to look at the structure, understand where the pressure has moved, and make sure clients are paid for the risks they are taking.

Federal Reserve Bank of Philadelphia RADAR U.S. SRT Database, as of 12/31/24. Approximate values are digitized from Figure 3.  Data may understate total U.S. activity because SRT disclosure is not required for all U.S. banks.