Private Credit Quality Continues to Weaken

Downgrades dominate and defaults are rising, according to Morningstar DBRS data.

Key Takeaways

• The pattern of downgrade activity we observed throughout 2025 has continued into the first six weeks of 2026, with the ratio of downgrades moving higher to 3.3 times.
• Default intensity has continued to rise since our October 2025 chartbook, reflecting ongoing struggles among the weakest 10% of our rated borrowers.
• Our outlook for 2026 remains negative, given borrowers’ ongoing struggles with margin compression and rising debt levels.

Within the universe of private credit ratings issued by Morningstar DBRS, re-rating themes remain focused on weaker credit quality as we head into the latter half of the first quarter.

Downgrades Continue to Outpace Upgrades in Private Credit

Our downgrade/upgrade ratio series continues to test recent highs, rising to 3.3 times for the 12 months through Feb. 6 from 3.3 times through the fourth quarter of 2025. The volume of upgraded borrowers is down 14% year over year, while the volume of downgrades increased 18%.

The uptick in relative downgrades is being driven by a 27% year-over-year jump in US/Canada credit rating downgrades and a 17% decline in upgrades. Meanwhile, downgrades of European/UK borrowers declined 7%, though the downgrade/upgrade ratio still increased, since the number of upgrades declined 17%.

Downgrade/Upgrade Actions by Destination Credit Rating

Over the last 12 months, most downgrade activity was focused on borrowers moving toward the B (low) or weaker categories. Meanwhile, the proportion of downgrades moving into CCC (high) through C categories was unchanged at 45% year over year, while the proportion of downgrades into B (low) declined to 23% from 27% a year ago.

We have yet to see any material uptick in credit rating momentum from the CCC (high) and lower categories into B (low), which would signal stabilizing fundamentals among weaker borrowers. In fact, there have been proportionally fewer upgrades to B (low) compared with a year ago.

Most upgrade activity has been a re-rating of borrowers from D or SD to CCC (high) through C, driving an increase in upgrades to this category to 19% from 10% a year ago. The higher ratings generally reflect a lower leverage profile for distressed borrowers following debt restructuring.

Middle Market Defaults Still Trending Higher in Early 2026

Over the last 12 months, we downgraded the ratings of 17 borrowers to either D (default) or SD (selective default), compared with nine borrowers during 2024. The weakest 10% of rated borrowers remain heavily dependent on external capital support, including payment-in-kind deferral.