Private equity firms have been increasingly adding another layer of debt to their complex borrowing arrangements, raising concern among some investors about potential risks to the wider industry and the financial system.

Bloomberg reports that, faced with a drought of deals and dwindling cash, some buyout firms are resorting to backroom financing to meet fund commitments or enable succession planning. These loans, backed by assets including the promise of future income, carry interest rates of as much as 19% ÔÇö a rate more typical of consumer loans rather than corporate borrowing. Even a junk-rated company in the US recently paid 10% on a bond.

Despite the high costs, demand for these types of loans is at an all-time high. Some of the biggest lenders, such as Carlyle Group, argue that these debts are relatively safe. However, other firms are taking precautions by adding covenants that allow for the seizure of other underlying fund assets, indicating concerns about possible losses. There are also concerns about firms facing multiple claims from different types of loans simultaneously. This situation could lead to a margin call if the value of the fund drops, creating a challenging scenario for the firm.

These loans mark a significant reversal in fortune for an industry that has been accustomed to easy money. Buyout firms have been grappling with rising interest rates and economic uncertainty, resulting in a nearly 50% decrease in takeover volumes this year. Cash on hand for private equity firms is at its lowest point since at least 2008, according to data from PitchBook.