Credit Contagion Warning: SVP’s Khosla Says Software Selloff Threatens Leveraged Markets

Victor Khosla, founder and CIO of $23 billion credit fund Strategic Value Partners, warned on Bloomberg TV Tuesday that contagion risk from the software stock selloff could intensify as volatility spreads from equity to credit markets.

Khosla, whose firm specializes in distressed and special situations credit, delivered the warning as $46.9 billion of U.S. tech company loans now sit in distressed territory—with $17.7 billion dropping below the 80-cent distress threshold in just four weeks. The timing is critical: software stocks have suffered dramatic selloffs with some names seeing double-digit weekly declines, yet credit spreads have remained remarkably compressed.

The Decoupling Problem

For months, credit markets have defied equity volatility. High-yield bond and leveraged loan spreads hover near historic tights, while software companies have lost around $2 trillion in value over the past year in what JPMorgan called “the largest non-recessionary 12-month drawdown in over 30 years”. Khosla’s warning suggests this anomaly cannot persist.

Strategic Value Partners manages $22 billion across distressed debt, private credit, and special situations. In December, Khosla told Bloomberg the firm was tracking 15 deals where borrowers have over $2 billion in debt trading below 70 cents, calling them “essentially zombie companies.” The pile has since grown substantially.

The concern centers on tech’s outsize role in leveraged finance. Software represents the single largest sector exposure in the $3 trillion private credit market, with roughly 20-25% of all private credit deals concentrated in SaaS companies. From 2015 to 2025, more than 1,900 software companies were acquired by private equity in deals worth over $440 billion, financed heavily through leveraged loans and high-yield bonds.

Spread Widening Ahead?

Credit strategists at Man Group expect spreads will likely widen in 2026, noting that spreads below 90 basis points typically don’t stay this low for long. JPMorgan sees high-yield spreads touching 375 basis points by year-end, up from current levels around 300 bps, driven by increased issuance and deteriorating fundamentals in pockets of the market.

Apollo Global Management cut its software exposure from roughly 20% to around 10% last year, a stark signal from one of credit’s most sophisticated investors. Shares of major private credit firms have been crushed: Ares fell over 12% in a single week, Blue Owl lost 8%, KKR dropped almost 10%. These aren’t software companies—they’re the lenders to software companies, and the market is repricing the entire credit infrastructure behind them.

The Maturity Wall Looms

Timing compounds the risk. Approximately $580 billion of leveraged loans and around $625 billion in high-yield bonds mature between 2027 and 2029—roughly $1.2 trillion in leveraged debt that will need refinancing. The average interest coverage on the U.S. leveraged loan index after Q3 2025 sits around 4.6x, well below 2022’s coverage that approached 6x.

For companies facing both margin compression from AI competition and elevated interest costs, refinancing becomes treacherous. Even where fundamentals hold, sentiment has turned decisively—the market has decided AI changes competitive dynamics for enterprise software, and once that perception takes hold, it is hard to reverse.

Technology spreads widened 8 basis points to 419 bps last week, making it the third-widest spread in the high-yield index. SaaS companies dominate the distressed pile, particularly those focused on admin, data analytics, and back-office functions where switching costs are low and AI can automate directly.

Private Credit’s First Real Test

The software crisis represents private credit’s first major stress test since the asset class exploded to $3 trillion. Corporate credit is beginning to display signs of late-cycle behavior, and while the headline default rate in private credit has remained below 2%, once selective defaults and liability management exercises are included, the “true” default rate approaches 5%.

Private credit executives insist there are “no red flags,” but the 15% drop in public software equities this month is not yet reflected in business development company (BDC) net asset values—private marks lag, and writedowns are coming in late February and March. Investors are selling BDC shares now in anticipation of markdowns not yet disclosed.

Emerging AI-related credit concerns add to long-term vulnerabilities, keeping investor sentiment fragile despite improving issuance momentum. The question is whether software stress remains contained or metastasizes across leveraged credit more broadly.

What to Watch

Credit spread behavior: High-yield spreads traded around 300 bps throughout 2025; a sustained move above 350-375 bps would signal contagion is taking hold, with sub-400 bps spreads unlikely to persist absent major shocks.

BDC earnings season: Late February and March NAV reports will reveal the magnitude of private credit markdowns on software exposure. Watch Golub Capital, Blue Owl, and Ares for disclosure quality.

Liability management activity: Sponsors are already embedding anti-creditor coordination clauses into new loans, designed to kill creditor unity before restructurings begin—a sign they expect stress.

Refinancing pipeline: A K-shaped economy is bifurcating results, with AI ecosystem companies thriving while others struggle. A steepening Treasury curve, even with falling short-term rates, will force highly leveraged companies into debt restructurings.

Khosla’s firm, with operating control of 18 businesses employing about 100,000 people, is positioned to capitalize on distress. But his public warning suggests the opportunity may arrive faster—and more violently—than credit markets currently price.