(Bloomberg) -- The Bank of England is concerned about the ways that private equity giants value their holdings and how that methodology could amplify any economic shocks in the UK.

The central bank’s Financial Policy Committee is monitoring the risk as part of its ongoing probe into PE investment across the UK and the worry is that if the economy worsens, buyout funds might need to deleverage their investments in order to repay their debts. That could result in healthy portfolio companies being sold at steep discounts. 

“If this happened, the opacity throughout the system could get in the way of appropriate risk management and cause a procyclical reaction,” Nathanaël Benjamin, the central bank’s executive director for financial stability strategy and risk, said in prepared remarks for an event held at Bloomberg LP’s London offices on Monday. “Opacity around valuations can smooth things through a period of uncertainty, but there are material risks.”

The central bank’s increased oversight of the space comes as some private-fund managers have barely budged on where they “mark” certain loans even as rivals who own the same debt have slashed its value, Bloomberg News reported in February. As a result, more money managers are hiring investigators for on-the-ground information to help them learn more about the firms they’re lending to or invested in, as well as value underlying collateral. 

The Financial Policy Committee will publish a bigger assessment of the risks tied to the PE industry in a June report. The UK’s Financial Conduct Authority is also carrying out a review of valuation practices for private assets, Benjamin said. 

‘False Comfort’

The central bank is also examining the potential for systemic risk in the $1.7 trillion private credit market and it has warned that the next blow-up in financial markets may be triggered by corporate credit after a massive build-up in private debt over the past decade.

Why Is Private Credit Booming? How Long Can It Last?: QuickTake

The committee has previously warned that it’s concerned about the surge in PE-sponsored companies turning to so-called “amend and extend” agreements, where companies push back payment dates rather than try to refinance the debt at a higher rate. The central bank is also concerned about a rise in the use of payment-in-kind features in debt financings, a facility that allows borrowers to push back cash outlays by paying interest with more debt. 

“While these agreements can help smooth through the stress, the risk is that the impact of higher rates is simply delayed, and an extension gives false comfort, increasing credit losses in the future,” Benjamin said in the prepared remarks. “It is therefore important that there is high-quality risk management as debt is extended, and sponsors may also be called upon to inject equity.”

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