Direct lending continues to expand across Europe as institutional and sophisticated high-net-worth investors recognize the attractive opportunities available. Demand for private credit, and specifically middle market direct lending, is growing faster than supply, prompting investors to look beyond their domestic markets.
This paper outlines why a complementary allocation to U.S. middle market direct lending may enhance portfolio diversification, and potential returns.
Cash is the lifeblood of any business, and access to financing – particularly for small and medium-sized firms – is essential to support growth.
In Europe, middle-market companies have traditionally relied on banks, which still dominate the lending ecosystem. However, following the Global Financial Crisis (GFC), the regulatory environment in the U.S. tightened, which created space for non-bank lenders to gain additional market share.
The dis-intermediation of U.S. direct lending from banks to non-bank lenders began more than a decade earlier and accelerated following the GFC. Driving some of this evolution was the substantial decline in the number of U.S. commercial banks.
Today, banks still account for much of middle-market lending in Europe, as represented by considerable exposure of commercial banks holding loans directly on balance sheet. In addition, the broadly syndicated loan (BSL) market in Europe is substantially larger in terms of capital deployed as compared to the size of capital deployment for direct lending.
Banks are a small fraction of buyout financing in the U.S., either through holding loans directly on balance sheet or through broader syndications, having shifted away from holding significant commercial and industrial loans in favor of less capital-intensive assets. Alternatively, U.S. middle market direct lending has substantially grown its share of private equity sponsor backed loans to a level that is now around 2.5x larger than the BSL market (see Exhibit 1).
Comparing the United States to Europe on a like-for-like basis is challenging given the latter’s fragmented legal, regulatory, and cultural landscape. Direct lending is something of an exception, however, as many European deals are structured under U.K. law. In the table below, we outline some key distinctions between U.S. and European direct lending that investors will encounter. The terms are generally more investor favorable in the U.S., which is in part a result of lender friendly precedents established over the U.S. direct lending market’s history.
| Provision/concept | U.S. position | Europe position |
|---|---|---|
| Amortization | Limited (typically ~1% per year) until repayment at maturity | Typically no amortization; repaid at maturity (bullet loans) |
| Mandatory prepayments | Required from asset sales, insurance proceeds, and excess cash flow (often with step‑downs over time) | Similar, but generally fewer cash sweep requirements and higher thresholds |
| Covenant cushion (headroom) | Typically ~25–35% | Typically ~35–40% |
| Financial covenants—equity cure | Usually through paying down debt; flexibility is limited | More flexible; can reduce debt or increase earnings (EBITDA) |
| Working capital facilities | Revolving credit facilities often pari passu to the term loan; priority sometimes achieved through an agreement among lenders | Usually structured as top‑priority (super senior) or allowed through separate capacity for future facilities |
Source: Principal Asset Management, Proskauer, Carlsquare, Q1 2026.
Another point of distinction is how transactions are sourced. In Europe, intermediaries such as debt advisors are routinely involved in placing loans with investors through a broader outreach to prospective lenders, resulting in more competitive terms. In the U.S., sponsor relationships tend to be more established, reducing reliance on these intermediaries. These bilateral transactions provide a more streamlined capital raising process, which is often preferable to private equity sponsors and also benefits lenders with proven origination relationships. While European banks continue to control much of the non-sponsored loan market, U.S. non-sponsored loan origination is well established and growing as direct lenders continue to take share from banks. Importantly, the non-sponsored channel represents an attractive source of potential alpha for investors given the transactions are often structured with lower leverage, tighter covenants, and attractive pricing compared to the sponsor origination channel.
Unlike Europe, the U.S. benefits from a single legal and regulatory landscape, with a relatively homogeneous culture.
It is the world’s largest economy, with middle-market firms contributing roughly one-third of private sector GDP and employment
U.S. direct lending provides numerous key advantages for European investors including:
A deeper and more diverse investment universe. More than 200,000 middle-market companies operate across a broad range of industries.
Attractive risk and return profiles. Default rates remain below long-term averages and transactions tend to be more lightly levered in this higher-for-longer rate environment. Long-term historical default levels also remain attractive at approximately 2%.
Strong structural protections. U.S. lenders often benefit from stronger covenant protections and have greater influence in workout scenarios.
Reduced exposure to supply chain volatility. Most middle-market firms operate almost entirely in their home market (locally-focused), limiting exposure to global geopolitical disruptions and international logistics issues.
More broadly, the U.S. has a reputation for being business friendly and it is recognized as one of the easiest places in the world to set up a company. The current administration has also lifted some of the regulatory burden that disproportionately impacted small to medium-sized companies.One example of this is a provision in President Trump’s One Big Beautiful Bill Act, which was signed into law on 4 July 2025, allowing firms to fully expense many forms of investment. Business owners are now incentivized to invest more in capital equipment and drive greater efficiencies.
The U.S. middle market is also incredibly dynamic, with simultaneous trends toward consolidation and robust new business formation. The market’s significant size, depth, and dynamism provides companies the opportunity to scale domestically without needing to navigate different legal systems or regulatory frameworks.
Conclusion
The European market is maturing and offers investors a growing selection of deals. However, by also allocating to U.S. direct lending, investors can benefit from:
- A broader and deeper opportunity set
- Higher spreads and more attractive terms
- Greater idiosyncratic deal flow
- Diversification that complements their existing European allocation
In private markets, timing matters and opportunities emerge when uncertainty is high. Adding U.S. direct lending exposure positions investors to capture attractive returns across a resilient and dynamic segment of the world’s largest economy.
To learn more about how U.S. middle market direct lending can complement and enhance European portfolios, including navigating some of the key concerns for European investors, please read the full report.
Our approach to direct lending is grounded in true lower and core middle market direct lending. It is founded on a disciplined process, targeting borrowers in recession resilient industries and requiring strong credit structures with meaningful financial covenants. We avoid unnecessary complexity, prioritize first lien lending, and maintain close alignment with investors’ interests.
Footnotes
National Center for the Middle Market, Q4 2025
Risk considerations
Investing involves risk, including possible loss of principal. Past Performance does not guarantee future return. All financial investments involve an element of risk. Therefore, the value of the investment and the income from it will vary and the initial investment amount cannot be guaranteed. Investments in private debt, including leveraged loans, middle market loans, and mezzanine debt, are subject to various risk factors, including credit risk, liquidity risk and interest rate risk. Fixed Income investments are subject to interest rate risk; when interest rates rise, the price of debt typically declines.
Investors should be aware that alternative investments including private equity and private debt are speculative, subject to substantial risks including the risks associated with limited liquidity, the use of leverage, short sales and concentrated investments and may involve complex tax structures and investment strategies.
Alternative investments may be illiquid, there may be no liquid secondary market or ready purchasers for such securities, and they may be subject to high fees and expenses, which will reduce profits. Alternative investments are not appropriate for all investors and should not constitute an entire investment program.
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MM14981 | 07/2026 | 5482374-07/2028