Wall St. Is Minting Easy Money From Risky Loans. What Could Go Wrong?

In the fall of 2015, in the back booth of the retro Putnam Restaurant in Greenwich, Conn., Craig Packer, a partner at Goldman Sachs, sat across from Doug Ostrover and listened to an audacious pitch.Mr.Ostrover, then 52, had recently left the investment colossus Blackstone and was mulling a dramatic midcareer effort to build a firm from scratch, one that would take on some of the biggest names in global finance.

Quit your job, the billionaire financier told the 48-year-old Mr.Packer, and join me.As Mr.

Packer later recalled, Mr.Ostrover wanted to create a firm that would lend money to highly indebted, risky businesses willing to pay hefty interest rates for fast cash.

If it succeeded, the new enterprise, and its founding partners, could dominate a new financial playing field with the potential for huge profits.Mr.Ostrover’s pitch (one he would also make to Marc Lipschultz, a two-decade veteran of KKR who would eventually become another founder of the nascent firm) was to leap into the business of “private credit,” a simple-sounding term that belies its complexity — and its risk.The new venture would not be a bank, but would operate almost like one — without the regulatory restrictions and government oversight that had made traditional banks skittish about this market.

Unlike a bank, the firm would be amassing money not from individual depositors, whose savings are fiercely protected by the federal government and can be withdrawn at will, but from institutions like insurance companies and pension funds.Thus, the new firm would be legally permitted to finance tricky, highly speculative companies without reporting the details of such activities publicly.During the next several months, over scrambled eggs at the diner and meetings elsewhere, Mr.

Ostrover, Mr.Packer and Mr.

Lipschultz agreed that the venture offered them a great opportunity — but only if they started at a gigantic scale, $10 billion or so.A bet that size would be a game-changing move in...