WEBVTT - Moody’s Sees Private Debt Leverage, Transparency Risks 0:00:18.120 --> 0:00:20.760 Hello, and welcome to The Credit Edge, a weekly markets podcast. 0:00:20.880 --> 0:00:23.280 My name is James Crumbie. I'm a senior editor at Bloomberg. 0:00:23.640 --> 0:00:26.400 This week, we're very pleased to welcome Anna Arsof, global 0:00:26.440 --> 0:00:29.920 head of private credit at Moody's Ratings. How are you, Anna, great? 0:00:29.960 --> 0:00:31.560 Thank you, super excited to be here. 0:00:31.640 --> 0:00:33.040 Thank you so much for joining us today. Were very 0:00:33.040 --> 0:00:34.920 excited to have you on the show and also delighted 0:00:34.960 --> 0:00:37.440 to have us our guest, David Haven's with Bloomberg Intelligence. 0:00:37.440 --> 0:00:40.200 Hello David, James, excellent to be with you as always, 0:00:40.200 --> 0:00:41.120 and you two, Anna. 0:00:41.479 --> 0:00:44.160 So We're here to discuss private credit, a hot topic. 0:00:44.280 --> 0:00:46.879 Everybody's talking about it. Just to set the scene a bit. 0:00:47.159 --> 0:00:50.240 Private debt has experienced a meteoric rise over the last 0:00:50.280 --> 0:00:52.800 few years. It still has plenty of fans. I don't 0:00:52.800 --> 0:00:54.880 think it's going away, but there are plenty of risks 0:00:54.920 --> 0:00:58.840 building in this one point seven trillion dollar market. Last 0:00:58.880 --> 0:01:01.040 week's rate cut from the They're kicked off what could 0:01:01.080 --> 0:01:04.080 be a significant easing cycle, which would undermine the appeal 0:01:04.120 --> 0:01:07.440 to investors in loans which are floating so they pay 0:01:07.600 --> 0:01:11.440 less when rates go down. Regulators also have the industry 0:01:11.480 --> 0:01:14.000 in their sites amid growing concerns about how any big 0:01:14.000 --> 0:01:16.559 blow up in private credit would hit banks, which tend 0:01:16.600 --> 0:01:20.720 to lend to private credit managers. Fundraising is meanwhile slowing 0:01:20.840 --> 0:01:23.679 as falling oil prices effect flows from the Middle East 0:01:23.720 --> 0:01:26.319 and new US measures may make it harder for insurers 0:01:26.360 --> 0:01:28.800 to invest. And there's still a risk in the US 0:01:28.880 --> 0:01:32.480 economy that it may tip into recession, which could mean 0:01:32.520 --> 0:01:36.200 more distress broadly in debt markets, including private credit. We're 0:01:36.200 --> 0:01:39.280 already seeing signs of private credit stress in the form 0:01:39.319 --> 0:01:43.240 of amendments, extensions and increasing number of loans being repaid 0:01:43.240 --> 0:01:46.959 with more debt and arise in defaults. Some fear a 0:01:47.000 --> 0:01:50.680 big reckoning as too much money chases too few deals. 0:01:51.120 --> 0:01:54.600 So let's start there, and is this still a golden 0:01:54.680 --> 0:01:57.480 age or time now to curb all that enthusiasm about 0:01:57.480 --> 0:01:58.120 private credit? 0:01:59.200 --> 0:02:03.320 Well, golden in it's from a credit person. It's very 0:02:03.400 --> 0:02:05.160 hard for me to say that. You know, if I 0:02:05.240 --> 0:02:07.320 was an equity investor, I would have been a little 0:02:07.320 --> 0:02:09.079 bit too excited. But as we try and tend to 0:02:09.120 --> 0:02:12.920 say in credit, there is no upside to paying a 0:02:12.960 --> 0:02:15.120 principle back, so I have to be a little bit 0:02:15.120 --> 0:02:19.280 more tained in my response. So where are we look, 0:02:19.360 --> 0:02:23.960 this market got its real i would say golden age 0:02:23.960 --> 0:02:26.960 period between twenty twenty one and twenty twenty two, and 0:02:27.040 --> 0:02:30.320 probably half of twenty twenty three. And why that was 0:02:30.360 --> 0:02:34.519 the case, Well, at that time we had an extraordinary 0:02:34.680 --> 0:02:39.560 influx of liquidity. Twenty twenty one was the biggest market 0:02:39.720 --> 0:02:43.640 in originating leverage finance loans, both in the private and 0:02:43.720 --> 0:02:47.040 in the public syndicated market. And then we got something 0:02:47.480 --> 0:02:51.000 extraordinary rate hikes and we got to have a base 0:02:51.040 --> 0:02:52.840 rate in order five percent, which we haven't had in 0:02:52.840 --> 0:02:55.600 a long time. So what that meants is that seal 0:02:55.720 --> 0:03:00.840 investors were the largest purchasers of really syndicated owns, got 0:03:00.880 --> 0:03:06.440 scared basically, you know, issuance and claws got really tempered, 0:03:06.919 --> 0:03:10.359 and the bordly syndicated law market pretty much died, if 0:03:10.400 --> 0:03:13.080 you will, for two years. So this was the golden 0:03:13.120 --> 0:03:15.760 moment of the folks out they're the large asset managers 0:03:15.760 --> 0:03:18.280 and others who had BDC's already set up, who had 0:03:18.360 --> 0:03:22.720 raised capital, permanent capital ready do we deployed? So yeah. 0:03:22.760 --> 0:03:24.840 So that was the period that between twenty twenty one 0:03:24.840 --> 0:03:27.720 and twenty three was the golden age, and then the 0:03:27.760 --> 0:03:30.800 market opened this year in twenty twenty four in the 0:03:30.800 --> 0:03:33.639 borodly syndicated lawn market, it's around three hundred billion dollars 0:03:33.680 --> 0:03:37.120 that have been already executed, so it became quite competitive, 0:03:37.160 --> 0:03:38.560 and I'm sure we're going to touch about that. 0:03:39.000 --> 0:03:40.360 What do you think, David golden Age? 0:03:40.400 --> 0:03:43.760 Still, I think I tend to side with Anna on 0:03:43.800 --> 0:03:46.240 this one. It seems like we've probably moved through the 0:03:46.280 --> 0:03:49.520 Golden Age, although we have seen a pretty significant uptakeing 0:03:49.520 --> 0:03:52.640 growth over the past year in asset loan formation, at 0:03:52.720 --> 0:03:56.640 least on the balance sheets of BDC's sort of focusing 0:03:56.640 --> 0:03:59.320 on that. That's up about twenty percent on a year 0:03:59.360 --> 0:04:02.200 over year base. So they did take a pause and 0:04:02.280 --> 0:04:05.280 growth as rates began to rise and as there were 0:04:05.280 --> 0:04:08.280 all sorts of questions about the economy. Seem to have 0:04:08.320 --> 0:04:11.720 moved through that. So there's still a lot of dry 0:04:11.760 --> 0:04:15.320 powder being put to work in private credit and private equity. 0:04:15.320 --> 0:04:18.000 The two go hand in hand together. So I think 0:04:18.000 --> 0:04:19.600 that we're going to see a lot of opportunity to 0:04:19.640 --> 0:04:22.240 add assets. But the question is is this's the right 0:04:22.279 --> 0:04:26.080 time to be adding these assets? You know, have spreads 0:04:26.200 --> 0:04:28.240 spreads have come in, have they come in too much? 0:04:28.279 --> 0:04:32.240 There's a lot of competitions on a noted and it 0:04:32.360 --> 0:04:36.400 seems as though the possibility of accidents, which I think 0:04:36.400 --> 0:04:39.160 we've largely missed over the past couple of years, might 0:04:39.160 --> 0:04:40.200 be on the rise now. 0:04:40.960 --> 0:04:44.920 If I may just to add to some numbers, our 0:04:45.040 --> 0:04:48.040 estimates show that around one hundred billion dollars of worth 0:04:48.040 --> 0:04:51.040 of transactions order of three hundred million dollars to executed 0:04:51.080 --> 0:04:53.920 in the private credit market here to date, from which 0:04:54.160 --> 0:04:57.880 seventy billion were notorder for a billion dollars. Why mentioning this 0:04:58.040 --> 0:05:02.040 is because that was the sweet spot of the broadly 0:05:02.080 --> 0:05:06.360 syndicated loan market and everybody thought, well, the BSL market 0:05:06.440 --> 0:05:10.000 is going to open, so that's the debt for private credit. 0:05:10.040 --> 0:05:12.800 The show is over. But obviously that did not happen. 0:05:13.400 --> 0:05:16.760 There is a significant number of transactions that you know, 0:05:17.320 --> 0:05:19.960 in two, three, four years ago would have gone to 0:05:20.000 --> 0:05:22.600 the BSL market, particularly these ones that I mentioned a 0:05:22.600 --> 0:05:26.960 billion dollars and above. But private credit, I guess showed 0:05:27.000 --> 0:05:29.479 it's worth over the last few years. And what I 0:05:29.520 --> 0:05:32.200 mean by that is, you know, they're much more flexible 0:05:32.200 --> 0:05:36.920 in execution. Therefore the rating process that's one and then 0:05:36.960 --> 0:05:40.720 also can can attend to much more flexible terms like picking. 0:05:40.800 --> 0:05:46.520 For example, you know, the whole concept of default is 0:05:46.560 --> 0:05:50.599 not the same. So a lot of that B three 0:05:50.640 --> 0:05:54.440 credits that traditionally would have been originated and placed in 0:05:54.560 --> 0:05:58.360 clo clos became more conservative seal information. Also, although his 0:05:58.480 --> 0:06:00.760 pick top was you know, his slow still was very 0:06:00.760 --> 0:06:03.000 slow in the first quarter, so they were looking for 0:06:03.080 --> 0:06:05.440 better quality credits like B two. So anything that's a 0:06:05.480 --> 0:06:10.400 B three or would have been basically originated in the 0:06:10.839 --> 0:06:15.479 private credit market and more definitely more flexible around this. 0:06:16.040 --> 0:06:19.360 So what's interesting for us is thinking about what's the 0:06:19.400 --> 0:06:23.120 new norm. Is this an an normally or this year 0:06:23.200 --> 0:06:25.279 still part of the anomally of twenty twenty one twenty 0:06:25.360 --> 0:06:29.960 three cycle, or truly private credit is here to stay 0:06:30.000 --> 0:06:32.960 and going to share the stage would be asl forever. 0:06:33.360 --> 0:06:35.920 Yeah, I mean I think that there's a a you 0:06:35.960 --> 0:06:38.560 mentioned the word flexibility. I think that word flexibility is 0:06:38.600 --> 0:06:41.960 something that's pretty attractive to the to that sort of 0:06:42.040 --> 0:06:45.760 private private capital. I wouldn't just limit it to private credit, 0:06:45.800 --> 0:06:49.520 but I think it's attractive to the private capital ecosystem 0:06:49.640 --> 0:06:52.680 where private equity providers you know, are often you know, 0:06:52.760 --> 0:06:55.280 kickstarting some of the transactions that are going on private 0:06:55.279 --> 0:06:59.479 credit steps in provides funding. Uh, they do provide ease 0:06:59.520 --> 0:07:03.440 of execute shan as opposed to the BSL market, You're 0:07:03.480 --> 0:07:06.599 dealing with one or a small club of lenders, very 0:07:06.640 --> 0:07:10.000 easy to sort of make changes and amendments and you know, 0:07:10.040 --> 0:07:14.040 sort of shift gears on the fly in a debt 0:07:14.080 --> 0:07:17.960 transaction given that limited number of lenders, as opposed to 0:07:18.040 --> 0:07:21.680 the BSL market or structured market where you've got far 0:07:21.840 --> 0:07:24.440 less flexibility and you're dealing with more people and have 0:07:24.480 --> 0:07:27.480 more hurdles to cross. So that's pretty attractive to the borrowers. 0:07:27.840 --> 0:07:29.240 Yeah, and then if I am a d I was 0:07:29.240 --> 0:07:33.800 looking actually at FED research paper and private credit yesterday 0:07:33.840 --> 0:07:38.520 preparing for this discussion and just to kind of mention 0:07:38.680 --> 0:07:42.800 this whole point of typically it was a one lender market. Actually, 0:07:42.920 --> 0:07:46.040 the FED shows that what traditionally was a one lender 0:07:46.120 --> 0:07:49.600 typical private credit market has increased to two point eight 0:07:49.720 --> 0:07:52.720 on medium for most of private credit deals. And we 0:07:52.840 --> 0:07:55.960 know that this particular transactions nord of a billion or so, 0:07:56.440 --> 0:08:00.200 they really become very much a club of six an 0:08:00.280 --> 0:08:05.000 aid sometimes private credit lenders. So there is quite a 0:08:05.040 --> 0:08:10.120 convergence for sure in terms of the structure convergency in pricing. 0:08:11.120 --> 0:08:14.480 You know, the private credit loans used to you know, 0:08:14.640 --> 0:08:17.160 generate like a six hundred and fifty bases points spread 0:08:17.560 --> 0:08:19.480 just a year ago, and now that has shrinked. In 0:08:19.560 --> 0:08:22.560 some latest deals, we're looking at around five point fifty, 0:08:22.680 --> 0:08:25.480 which is pretty much within the norm of the broadly 0:08:25.520 --> 0:08:28.720 syndicate in law market. So we step back and say, okay, 0:08:28.760 --> 0:08:33.360 so it's very clubbish, meaning more banks are participating. So 0:08:33.440 --> 0:08:38.080 that's similar to the broadly syndicated lawmarket. Spreads have compressed. 0:08:38.120 --> 0:08:41.120 So what makes the secret sauce? And I think it 0:08:41.200 --> 0:08:46.520 goes back to the terms and the flexibility that if 0:08:46.600 --> 0:08:51.000 a loan ends up being in trouble, it doesn't have 0:08:51.120 --> 0:08:54.640 to exit a CLO structure immediately because as the rating 0:08:54.720 --> 0:08:58.160 agencies will claim that as a default. Even you know, 0:08:58.520 --> 0:09:01.520 infusion by a sponsor capital, which was a norm in 0:09:01.520 --> 0:09:03.440 private credit over the last two years, they would have 0:09:03.480 --> 0:09:05.920 been potentially a trigger to call it a default and 0:09:06.000 --> 0:09:12.840 downgrade to C DOUBLEA, which immediately becomes disadvantaged from asset 0:09:12.960 --> 0:09:15.600 quality in a colo versus in the private credit market, 0:09:15.640 --> 0:09:19.280 that's a performing loan that luckily got a sponsor in fusion. 0:09:19.360 --> 0:09:22.640 So I'm glad you know, we're we're kind of comparing contrasting, 0:09:22.720 --> 0:09:25.960 but I think we will also discuss how we compare 0:09:26.000 --> 0:09:28.120 those default straight shortly as well. 0:09:28.360 --> 0:09:30.480 What are your expectations for growth of this market? I mean, 0:09:30.520 --> 0:09:32.160 it's sort of doubled over the last couple of years 0:09:32.600 --> 0:09:35.199 in size, But what you were saying is it kind 0:09:35.200 --> 0:09:38.280 of grew very quickly at the expense of broady syndicated loans, 0:09:38.280 --> 0:09:40.360 which kind of shut down. Now that those are back, 0:09:40.440 --> 0:09:42.400 Does that mean that the pace of growth of private 0:09:42.400 --> 0:09:44.320 credit just slows or stops altogether. 0:09:45.440 --> 0:09:48.400 Well, we you know, back many people out there, pundits 0:09:48.440 --> 0:09:52.679 have estimated various numbers out there have been a two 0:09:52.720 --> 0:09:56.160 point eight to three trillion over next three to five years. 0:09:56.480 --> 0:09:58.520 We look at it a little bit more simple than that. 0:09:58.840 --> 0:10:00.880 If today's one point seve and trillion, and we have 0:10:00.920 --> 0:10:05.400 a three trillion dollars of private equity dry powder, and 0:10:05.440 --> 0:10:09.160 we looked at statistically, depending on the rate cycle, equity 0:10:09.240 --> 0:10:11.400 versus debt on media, and let's say it's around fifty 0:10:11.400 --> 0:10:14.160 percent equity versus dead which means that that three trillion 0:10:14.240 --> 0:10:19.480 dollars of private equity capital will need to be invested 0:10:19.480 --> 0:10:22.439 with the equivalent of the three trillion dollars of debt. 0:10:22.720 --> 0:10:26.000 So now exactly the conversation we just had is where 0:10:26.040 --> 0:10:28.080 this new norm is private created is going to be 0:10:28.080 --> 0:10:34.199 thirty fifty percent of all leverage trainians credit provisions. Let's assume, 0:10:34.640 --> 0:10:37.560 you know, for sake of simplicity, fifty percent fifty split 0:10:37.640 --> 0:10:40.640 up the market share with BSL. You end up basically 0:10:40.679 --> 0:10:44.520 with need of roughly three or and a half of 0:10:44.679 --> 0:10:47.080 CREAD provision over the next five to seven years to 0:10:47.160 --> 0:10:50.920 deploy that private equity dry powder. So you know, again 0:10:50.960 --> 0:10:54.439 it's all about timing and how long horizon you want 0:10:54.440 --> 0:10:57.640 to have, but certainly, based on this very simplisticalcualation, you 0:10:57.679 --> 0:11:00.240 can get to three trillion market you know, by of 0:11:00.240 --> 0:11:00.720 the decade. 0:11:00.880 --> 0:11:03.520 And in terms of deal size on a single deal level, 0:11:03.640 --> 0:11:05.320 you know, we've seen some very big deals in a 0:11:05.360 --> 0:11:07.679 five billion plus. It is going to continue to get 0:11:07.720 --> 0:11:09.440 bigger in private credit, do you think. 0:11:10.120 --> 0:11:12.240 Yeah, exactly, as I said, I mean, seventy of the 0:11:12.240 --> 0:11:14.599 one hundred billion a year to DAT has been executed. 0:11:14.640 --> 0:11:18.720 That's our estimates. Point two seventy billion has been these 0:11:18.760 --> 0:11:21.760 transactions nord of a billion, with a few obviously exceeding 0:11:21.800 --> 0:11:24.080 even two and a half billion kind of medium size. 0:11:24.640 --> 0:11:29.040 So for sure it becomes what we are hearing from 0:11:29.040 --> 0:11:32.560 the banks, from the private credit managers is pretty much 0:11:32.600 --> 0:11:34.959 every deal nord of a billion actually now goes through 0:11:34.960 --> 0:11:38.680 a dual process. Private credit almost like arrived and it's 0:11:38.720 --> 0:11:41.600 not leaving. And the banks are like, you know, are 0:11:41.640 --> 0:11:45.040 obviously not liking it. But the private equity managers and 0:11:45.040 --> 0:11:47.280 sponsors are you know, indulging in it. 0:11:47.880 --> 0:11:49.920 Yeah, and the you know, and a lot of those 0:11:49.920 --> 0:11:54.920 sponsors are advising the private credit lenders, so you know, 0:11:55.240 --> 0:11:58.360 there is that sort of ecosystem of private capital out 0:11:58.400 --> 0:12:02.520 there that they cross over from private debt to private 0:12:02.520 --> 0:12:05.960 equity and keeping everything you know, within the ecosystem I 0:12:06.000 --> 0:12:09.960 think is pretty attractive to certainly to the advisors. 0:12:10.080 --> 0:12:12.040 You mentioned the banks, though I know you cover the banks, 0:12:12.080 --> 0:12:15.160 you have a very broad mandate moodies, which is is 0:12:15.200 --> 0:12:15.839 interesting to me. 0:12:16.320 --> 0:12:16.800 How are the. 0:12:16.760 --> 0:12:20.160 Traditional banks affected by this big boom in direct lending. 0:12:20.160 --> 0:12:23.040 On the one hand, they were competing, as you say, 0:12:23.080 --> 0:12:25.000 you know, they lost out on business in the broadly 0:12:25.040 --> 0:12:28.720 syndicated market, but now they seem to be lending more 0:12:28.800 --> 0:12:31.840 to the private credit managers, you know, sort of doubling 0:12:31.840 --> 0:12:34.760 the leverage in some cases in some of the fundraising, 0:12:35.480 --> 0:12:38.000 how much risk is building on the bank side because 0:12:38.000 --> 0:12:39.520 of this market growth? 0:12:40.040 --> 0:12:43.280 No, absolutely great question and yeah when we set up 0:12:43.280 --> 0:12:46.640 the private Credit Analytical franchise, said Moodies. And why it 0:12:46.760 --> 0:12:50.640 lended with me leading it is because I've covered it 0:12:50.679 --> 0:12:53.320 was the quota of all being creatings globally responsible for 0:12:53.960 --> 0:12:56.319 capital markets being seem particular the ones who are the 0:12:56.400 --> 0:13:00.240 largest in in this space and provisioning credit to to 0:13:00.280 --> 0:13:05.040 private credit and sponsors. And it became evident as part 0:13:05.080 --> 0:13:08.080 of our diligence into the banks and or risk meetings 0:13:08.080 --> 0:13:11.880 that the line that was growing the fastest in addition 0:13:11.920 --> 0:13:14.600 to the commercial real estate for for a number of years, 0:13:15.080 --> 0:13:17.959 was the exposure to non bank financials. And when we 0:13:18.120 --> 0:13:21.840 tried to dig in into that particular exposure, because that 0:13:21.920 --> 0:13:25.320 can be anything from origination of mortgage stray to be 0:13:25.360 --> 0:13:29.640 securitized or traditional COLO or auto loans, et cetera. Really 0:13:29.679 --> 0:13:33.000 the most significant subcomponent of that exposure to non bank 0:13:33.040 --> 0:13:36.839 financials was indeed exposure to private credit and private AQ 0:13:36.880 --> 0:13:38.839 with you. And as a matter of fact, there are 0:13:38.840 --> 0:13:43.720 two particular business lines within that segment that had the 0:13:43.800 --> 0:13:47.680 fastest growth. One was the subscription line of credit that 0:13:47.760 --> 0:13:50.760 obviously had both to private equit but also increasingly over 0:13:50.800 --> 0:13:54.000 the last few years, to private credit funds. And the 0:13:54.040 --> 0:13:57.800 second line was something called asset bak finance or asset 0:13:57.800 --> 0:14:01.400 back lending, which ultimately is what you just mentioned is 0:14:01.440 --> 0:14:05.440 the leverage provisioning into the BDCs and other similar funds. 0:14:05.720 --> 0:14:08.360 So how do the BDCs, maybe just let devistify this 0:14:08.800 --> 0:14:12.679 for our audience here, The BDCs typically fund themselves in 0:14:13.040 --> 0:14:15.360 when they start, when they're kind of a smaller entity, 0:14:15.360 --> 0:14:18.880 into the secured market solely as they basically typically you know, 0:14:18.920 --> 0:14:21.640 let's say cross five hundred million dollar size, they issue 0:14:21.680 --> 0:14:24.600 private placements and anord of a billion, they actually seek 0:14:25.480 --> 0:14:28.200 usually a public rating, and issue senior and secure dead 0:14:28.800 --> 0:14:31.280 So in addition to the senior and secure debt, they 0:14:31.320 --> 0:14:35.920 actually also still maintain a secure debt that's provided by 0:14:35.960 --> 0:14:39.480 the banks. And we estimate that that size of that 0:14:39.560 --> 0:14:42.840 exposure and banks balance is around four hundred plus billion dollars, 0:14:43.040 --> 0:14:45.600 which is quite significant. But the change is really the 0:14:45.600 --> 0:14:49.120 most significant, and what our data shows is that the 0:14:49.160 --> 0:14:51.960 growth of the bank's exposure in that particular asset by 0:14:51.960 --> 0:14:56.640 clending to private credit, has outpaced the fundraising of the 0:14:56.640 --> 0:15:01.040 alternative acet managers private credit lenders, so they have increased 0:15:01.080 --> 0:15:05.720 the exposure higher than what the capital raising activity it is. 0:15:06.000 --> 0:15:08.280 So that might be simply a ketch up, but it's 0:15:08.280 --> 0:15:11.880 a severy lucrative business, an attractive business for the banks, 0:15:12.000 --> 0:15:14.000 and we think this is going to be this is 0:15:14.040 --> 0:15:16.560 going to continue growing because there's always going to be 0:15:16.560 --> 0:15:20.200 a secured component as part of the banks, as part 0:15:20.200 --> 0:15:23.600 of the private credit funds originating these kind of loans. 0:15:23.920 --> 0:15:25.800 Yeah, and it sort of goes back to, you know, 0:15:25.960 --> 0:15:28.240 changes and regulations that have been going on since the 0:15:28.520 --> 0:15:32.160 since the financial crisis, where banks had to de risk 0:15:32.240 --> 0:15:35.120 you know, vast ways of their of their lending portfolios. 0:15:35.200 --> 0:15:40.040 So they did draw back from from lower quality corporate 0:15:40.080 --> 0:15:43.560 credit middle market lending. Uh. And it's easier for them 0:15:43.640 --> 0:15:45.920 to go in from a regulatory perspective and make a 0:15:45.960 --> 0:15:49.080 secured loan to an investment grade or near investment grade 0:15:49.160 --> 0:15:52.440 rated entity than it is to a B three C 0:15:52.600 --> 0:15:56.240 doa A one rated entity. And you know, you should 0:15:56.240 --> 0:15:59.840 probably cueue the foreboding background music now because we are 0:16:00.040 --> 0:16:05.960 talking about the specter of shadow banking. And you know, 0:16:05.960 --> 0:16:08.960 if you look through the report, for example, that the 0:16:09.000 --> 0:16:12.520 IMF did earlier this year, taking I think they dedicated 0:16:12.520 --> 0:16:16.080 twenty to thirty pages on private credit in their Global 0:16:16.080 --> 0:16:19.360 Financial Stability Report. One of their you know, sort of 0:16:19.400 --> 0:16:25.240 key recommendations is stepping up regulation and disclosure around private credit, 0:16:25.280 --> 0:16:28.760 particularly within the banking system. So well, I'm sure everybody's 0:16:28.760 --> 0:16:30.440 going to love that, but we'll see how that goes. 0:16:31.000 --> 0:16:33.800 No, absolutely, you know, we we have quite all significant 0:16:33.840 --> 0:16:37.840 engagement with variety of regulators globally. Everybody's trying to understand 0:16:38.640 --> 0:16:43.240 what does this disruption, if you will, will mean for 0:16:43.280 --> 0:16:46.560 the banks, both from a of course competitive perspective, but 0:16:46.680 --> 0:16:50.560 also from a risk perspective, and you know, you know, 0:16:50.600 --> 0:16:54.400 there's just a few arguments on that side, on both 0:16:54.440 --> 0:16:56.560 sides of the argument, if you will. So for example, 0:16:57.520 --> 0:17:00.600 you know, if you think about a leveraged loan and 0:17:01.760 --> 0:17:04.879 that has six seven times leverage, a lot of the 0:17:04.920 --> 0:17:08.320 private asset manager, private asset managers, alternative asset managers will 0:17:08.320 --> 0:17:12.359 originate this private credit loans would say, isn't that better 0:17:12.400 --> 0:17:15.040 that risky loan to be funded with a permanent capital 0:17:16.080 --> 0:17:18.960 at one to one leverage versus set a bank that 0:17:19.040 --> 0:17:21.600 has nine to ten times leverage and funded with you 0:17:21.640 --> 0:17:25.040 know forty you know, media for US banks and particularly 0:17:25.080 --> 0:17:27.399 large banks, you know anywhere from thirty to sixty percent 0:17:27.440 --> 0:17:31.560 of deposits, which have proven, particularly in the last years 0:17:31.640 --> 0:17:35.520 regional bank crisis, to be quite flighty. So yes, there 0:17:35.600 --> 0:17:40.040 is an argument to that. And however, you know, with 0:17:40.280 --> 0:17:44.640 the loans moving into the private credit ecosystem and funded 0:17:44.720 --> 0:17:49.280 only on banks balance sheets or or in the dark, 0:17:49.359 --> 0:17:51.639 if you will, because we don't know on what terms. 0:17:51.640 --> 0:17:55.840 Every banks has its own risk management standards that are 0:17:55.840 --> 0:17:59.480 proprietary to a bank, and there's very little disclosures as 0:17:59.480 --> 0:18:01.560 it is set to day about the breakout of that 0:18:01.640 --> 0:18:04.840 particular non bank financial exposure line that has been growing. 0:18:05.840 --> 0:18:09.879 It certainly creates concerns about on what terms are those 0:18:11.200 --> 0:18:14.840 loans being made and what's the ultimate leverage in the system. 0:18:15.400 --> 0:18:19.040 And so definitely we've been calling as well for better transparency, 0:18:19.119 --> 0:18:23.720 particularly from the bank's perspective, about their exposure because you 0:18:23.760 --> 0:18:25.760 know this in the larger scheme of things. So four 0:18:25.800 --> 0:18:28.120 hundred billion, let's say, which is our current estimate based 0:18:28.160 --> 0:18:31.320 on a survey that we are executing, and we'll be 0:18:31.320 --> 0:18:34.240 writing more about it. It's it's not significant. We take 0:18:34.240 --> 0:18:38.439 a twenty seven trillion US assets banking systems and this 0:18:38.560 --> 0:18:41.720 was by the way global banks number so but the 0:18:41.800 --> 0:18:44.040 pace and again the terms and is there not a 0:18:44.119 --> 0:18:46.400 hidden leverage behind it is what concerns regulators. 0:18:46.800 --> 0:18:48.800 But it's just basically fair of the unknown. Again with you, 0:18:48.960 --> 0:18:51.000 David Sinister, music playing in the background. I mean, you 0:18:51.040 --> 0:18:54.000 know what we can't see. We worry about you sumbly 0:18:54.240 --> 0:18:56.679 can see more than a lot of other people because 0:18:56.760 --> 0:18:58.919 you know you have the access. Is there anything that 0:18:58.960 --> 0:19:00.400 you're worried about right now? 0:19:01.080 --> 0:19:05.359 Not particularly today, because it gives us comfort that a 0:19:05.400 --> 0:19:09.600 lot of that exposure is in these two particular business lines, 0:19:09.640 --> 0:19:14.280 as I said, and the particularly asset back finance line 0:19:14.520 --> 0:19:19.520 is a super senior protection for the banks, whereby they 0:19:19.520 --> 0:19:23.920 have quite a lot of coverage. Typical the loan to 0:19:24.080 --> 0:19:27.040 values around sixty percent. And these are all senior loans 0:19:27.080 --> 0:19:30.600 that have been mostly senior loans that have been supporting 0:19:30.600 --> 0:19:33.959 as a collateral. And therefore it has to have a 0:19:34.000 --> 0:19:37.240 major correction first and foremost, and the value of both 0:19:37.280 --> 0:19:39.720 the private equity kind of enterprise value of the companies 0:19:39.720 --> 0:19:43.040 that senior loans support, and think about these are senior 0:19:43.080 --> 0:19:47.160 loans that even if private equity is necessarily losing their value. 0:19:47.240 --> 0:19:49.359 The senior loans should be first to pay, and again 0:19:49.400 --> 0:19:51.400 the bank will be the first one to pay if 0:19:51.400 --> 0:19:53.280 there is an issue with that loan. So it has 0:19:53.320 --> 0:19:56.280 to be a major correction in the asset value of 0:19:56.760 --> 0:20:01.080 senior loans today. If you think about history, recoveries for 0:20:01.840 --> 0:20:05.840 senior loans of leverage finance companies have been around seventy percent. 0:20:06.000 --> 0:20:08.520 We think in this cycle for the broadly syndicated low 0:20:08.560 --> 0:20:11.639 market that may go down as low as sixty And 0:20:11.720 --> 0:20:17.160 what we really are focused on is we haven't had 0:20:17.160 --> 0:20:21.520 a significant default cycle into the private credit loans today. 0:20:22.119 --> 0:20:24.160 And we will talk in a second maybe why that's 0:20:24.160 --> 0:20:28.199 the case, but we haven't. It's the argument of the 0:20:28.240 --> 0:20:32.080 private credit managers that they will manage this asset better 0:20:32.560 --> 0:20:35.280 than the banks or the broadly syne killaw market who 0:20:35.280 --> 0:20:38.480 are here just to originate and distribute versus only to balance. 0:20:38.560 --> 0:20:40.679 It is something that we are watching to see and 0:20:40.720 --> 0:20:45.119 we see how they really perform ultimately relative to BSL market. 0:20:45.119 --> 0:20:47.439 There is a lot of arguments why private credit managers 0:20:47.480 --> 0:20:49.919 will do it better because they have their own They 0:20:49.920 --> 0:20:52.240 have first of all, the benefit of time. At the 0:20:52.320 --> 0:20:54.840 end of the day, they can because they have permanent 0:20:54.840 --> 0:20:58.560 capital funding it that don't have overnight liquidity risks, at 0:20:58.640 --> 0:21:01.160 least the funds that we rate, which is the bulk 0:21:01.160 --> 0:21:03.520 of the BDCs and around ninety percent of the assets 0:21:03.560 --> 0:21:06.760 and investment create Because of the low leverage and no 0:21:06.880 --> 0:21:11.040 immediate funding risks, they can withstand let's at temporary shock 0:21:11.960 --> 0:21:15.920 into the liquidity market and manage that loan for ultimate 0:21:15.960 --> 0:21:19.320 recovery two three, four years from now. And also they've 0:21:19.320 --> 0:21:20.960 been building a lot of the large funds have been 0:21:21.000 --> 0:21:26.680 actually building their own resolution teams, hiring structuring teams, being 0:21:26.760 --> 0:21:29.360 ready for such a cycle. So I think this will 0:21:29.400 --> 0:21:32.560 be This is probably the biggest unknown is is that 0:21:33.280 --> 0:21:37.120 fundraising premise, if you will, of the funds that they're 0:21:37.119 --> 0:21:38.719 going to perform better will come true. 0:21:38.800 --> 0:21:41.320 So I think that sort of gets back to the 0:21:41.359 --> 0:21:42.800 word that I've sort of thrown out there a couple 0:21:42.840 --> 0:21:45.360 of times, is this whole ecosystem idea that you've got 0:21:45.400 --> 0:21:48.359 private capital, not just private debt, not just private equity, 0:21:48.400 --> 0:21:50.960 but sort of private debt and equity working together along 0:21:50.960 --> 0:21:54.080 with the sponsors too, who have that ability to throw 0:21:54.160 --> 0:21:56.760 good money after good if you get to a troubled situation, 0:21:56.880 --> 0:21:59.920 they've got the flexibility to make changes to terms and 0:22:00.080 --> 0:22:04.760 conditions and amendments in a fairly flexible manner that may 0:22:04.800 --> 0:22:09.159 not exist elsewhere. There are people that that view, you know, 0:22:09.320 --> 0:22:13.080 amendments and things of that nature is sweeping problems under 0:22:13.080 --> 0:22:16.359 the rug, which may be true. But again, if you 0:22:16.359 --> 0:22:18.960 can throw good money after good or make an amendment 0:22:19.160 --> 0:22:20.600 for a loan that you think will be good, it 0:22:20.640 --> 0:22:22.720 makes sense rather than being forced to do something you 0:22:22.720 --> 0:22:25.480 don't want to do. Just and on. One of the 0:22:25.560 --> 0:22:27.480 things which I think is kind of interesting and I 0:22:27.520 --> 0:22:34.280 get asset all the time, is why has private credit 0:22:34.440 --> 0:22:37.919 been as or credit generally, I guess, but private credit 0:22:38.000 --> 0:22:40.399 been as resilient as it's been. Like if I go 0:22:40.480 --> 0:22:42.320 back and look at some of the research that you 0:22:42.359 --> 0:22:45.919 guys did, I look back about a year ago, I 0:22:45.920 --> 0:22:48.199 think that we were looking at a trailing default rate 0:22:48.240 --> 0:22:53.320 of about three percent in BA in B three debt. 0:22:53.760 --> 0:22:56.520 I think you and others were forecasting that that was 0:22:56.560 --> 0:22:59.239 going to put perhaps double over the next year. That 0:22:59.320 --> 0:23:02.200 hasn't happened. And so what what do you think is 0:23:02.240 --> 0:23:05.959 going on? I've got my own theories, but curious. 0:23:05.480 --> 0:23:08.159 We'd love to debate that one. Maybe maybe we agree, 0:23:08.680 --> 0:23:13.560 So let me just kind of provide little statistics. You know, 0:23:13.600 --> 0:23:16.359 we were actually close to five percent you know default 0:23:16.400 --> 0:23:18.560 rate that we project is going to be down to 0:23:18.600 --> 0:23:21.240 three point five percent this year and going into next year. 0:23:21.680 --> 0:23:24.760 And that's on the broadly syndicated high yield you know, 0:23:24.840 --> 0:23:28.840 senior loans. If you look at now of the private 0:23:28.880 --> 0:23:32.960 credit loans universe that we rate in the business development 0:23:33.000 --> 0:23:36.720 companies or BDC sector, actually none acrules went from just 0:23:36.800 --> 0:23:39.520 fifty basis points two years ago to nord of one 0:23:39.560 --> 0:23:44.240 percent today. So again this is like comparing apples and oranges, 0:23:44.280 --> 0:23:47.560 which is the big issue of the market because as 0:23:47.560 --> 0:23:50.880 I said earlier, as sponsor can infuse a capital, which 0:23:51.040 --> 0:23:53.280 happened in you know, at least you know, thirty forty 0:23:53.320 --> 0:23:56.199 percent of transactions over the last couple of years in 0:23:56.240 --> 0:23:59.160 the private credit universe, and that is not a default 0:24:00.200 --> 0:24:03.520 versus a non accrule really means that they're not paying interest. 0:24:04.040 --> 0:24:08.879 So the couple of dynamics, there was definitely an ability 0:24:09.400 --> 0:24:13.280 to move transactions from the broadly syndicated loan market when 0:24:13.320 --> 0:24:17.320 they crossed that potential risk of default into the private 0:24:17.359 --> 0:24:22.679 credit market. So in my view, it's very hard statistically 0:24:22.680 --> 0:24:25.600 to prove this is we're trying to actually research it 0:24:25.960 --> 0:24:28.960 at this moment, is how much of that those number 0:24:28.960 --> 0:24:32.080 of loans that actually moved from be a sell into 0:24:32.080 --> 0:24:35.359 private credit And if assumed that big part of that 0:24:35.480 --> 0:24:38.120 maybe would have hit a default, would actually have increased 0:24:38.760 --> 0:24:42.680 the measured default rate. And obviously that is very hard 0:24:42.680 --> 0:24:47.280 to point. There was just an avenue of capital that 0:24:47.400 --> 0:24:50.680 existed in private credit did not exist in prior cycles. 0:24:51.040 --> 0:24:54.240 So that's a big reason of why that happened. Secondly, 0:24:55.240 --> 0:24:58.639 we did have quite a constructive economy. Yes, inflation was 0:24:58.880 --> 0:25:02.760 high as the rate increased, but we did have historic 0:25:02.880 --> 0:25:06.160 very low unemployment. The economy was doing well, which means 0:25:06.160 --> 0:25:09.040 that if you think about the US economy being driven 0:25:09.080 --> 0:25:11.520 by the consumer, two thirds of the US GDP's driven 0:25:11.560 --> 0:25:15.479 by consumer spending, and which means it's highly correlated to 0:25:15.640 --> 0:25:18.440 the unemployment rate more than inflation rate or any other 0:25:19.040 --> 0:25:21.240 or even interest rate. Has proven to be the case. 0:25:21.640 --> 0:25:24.760 So therefore, and you know, we can debate these two 0:25:24.760 --> 0:25:26.960 tails of the consumer and all of that, but generally 0:25:27.000 --> 0:25:31.320 the consumer was had extra liquidity, had jobs, which means 0:25:31.320 --> 0:25:34.119 that was supportive to the economy. So therefore you have 0:25:34.160 --> 0:25:37.080 two factors again influx of capital for private credit that 0:25:37.200 --> 0:25:40.159 basically a lot of firms who could have defaulted in 0:25:40.160 --> 0:25:42.480 a public market went and refinance, so they did not 0:25:42.600 --> 0:25:46.600 default in the official statistic. And then secondly, we had 0:25:46.600 --> 0:25:50.119 a relatively strong economy booming despite the inflation and the 0:25:50.200 --> 0:25:50.720 high rates. 0:25:50.960 --> 0:25:54.879 Yeah, I tend to think that the trillions of helicopter 0:25:55.720 --> 0:25:59.520 dollars of helicopter money that were pushed into the economy 0:25:59.600 --> 0:26:02.399 during the pandemic are having a pretty big influence on 0:26:02.760 --> 0:26:05.679 what we're seeing in individual you know, sort of credit 0:26:05.720 --> 0:26:09.760 trends and in in corporate credit trends. But one area 0:26:09.800 --> 0:26:14.120 which which I think is is drawing greater scrutiny right 0:26:14.119 --> 0:26:19.560 now is the amount of payment and kind income PICK income, 0:26:19.560 --> 0:26:23.280 which is flowing through at least BDC balance sheets. I 0:26:23.320 --> 0:26:26.600 did some research that was published over the past couple 0:26:26.680 --> 0:26:29.360 of days where we go back about five or six 0:26:29.440 --> 0:26:32.400 years look at PICK income as a percentage of total 0:26:32.440 --> 0:26:34.440 investment income, and I think it's gone from less than 0:26:34.440 --> 0:26:37.359 five percent back in twenty eighteen or twenty nineteen to 0:26:37.880 --> 0:26:41.040 just about ten percent now for BDC's And I think 0:26:41.040 --> 0:26:44.160 that you know, a lot of people that I talked 0:26:44.160 --> 0:26:46.720 to are wondering, well, this is it. This is showing 0:26:46.720 --> 0:26:49.560 that there really is stress building up in these private 0:26:49.560 --> 0:26:52.359 credit portfolios, and all it's going to take is a 0:26:52.359 --> 0:26:55.800 little spark for that to sort of explode. I don't 0:26:55.840 --> 0:26:58.680 think that there's going to be explosion, but I do 0:26:58.720 --> 0:27:01.320 think that that's something too to keep an eye on. 0:27:01.480 --> 0:27:05.320 And where where you guys. 0:27:05.200 --> 0:27:10.320 Absolutely, as a matter of fact, we we deep dive 0:27:10.359 --> 0:27:13.199 into this issue quite significantly. Maybe I'll just share some 0:27:13.240 --> 0:27:16.879 of the statistics. Our median picking come as percentage of 0:27:16.920 --> 0:27:19.919 total investment is around actually six and a half percent, 0:27:20.560 --> 0:27:22.880 but there is a big discrepancy around that median. 0:27:22.960 --> 0:27:24.120 You got to make more of this free. 0:27:24.160 --> 0:27:27.800 So yeah, I'll definitely share that. But if you look 0:27:27.800 --> 0:27:31.720 at some some BDCs here are really you know, nord 0:27:31.760 --> 0:27:34.080 of twenty percent, like I'm looking for example at Prospect 0:27:34.160 --> 0:27:38.240 Capital and you know, you know, close to twenty percent. 0:27:38.359 --> 0:27:41.359 So and then we have some that are really well performing, 0:27:41.560 --> 0:27:45.080 you know that you know, have you know less than 0:27:45.600 --> 0:27:49.760 less than three percent. So how we analyze this? What 0:27:49.800 --> 0:27:53.240 was unique feature of the prior crede market was that 0:27:53.520 --> 0:27:57.119 loans can be originated as a peak from beginning, and 0:27:57.160 --> 0:27:59.560 that was for a lot of these state companies who 0:27:59.560 --> 0:28:03.960 wanted to reserve capital for investment, and therefore that simply 0:28:04.280 --> 0:28:06.720 was not you know, both the sponsor and the lenders 0:28:06.720 --> 0:28:10.280 had agreed from origination that it's better for the company 0:28:10.280 --> 0:28:12.840 to invest in cash than pay interest. And there's been 0:28:12.880 --> 0:28:15.760 priced from the beginning of the transaction. So we consider 0:28:15.840 --> 0:28:18.280 that still, you know, not a perfect from a credit 0:28:18.400 --> 0:28:21.480 quality perspective, but something that has been captured and hopefully 0:28:21.480 --> 0:28:23.720 priced for what we look at when you sit in 0:28:23.760 --> 0:28:26.080 created comedian, we evaluate the ratings for a number of 0:28:26.080 --> 0:28:28.400 these BDCs. We actually look at the delta of how 0:28:28.560 --> 0:28:31.560 much of the picks have actually moved from non picks 0:28:31.880 --> 0:28:36.800 into pik loans, and that numbers has basically increased significantly 0:28:36.840 --> 0:28:39.360 over the last year, and we think of that as 0:28:39.400 --> 0:28:42.520 a precursor of increase of non accrules. So hence we 0:28:42.600 --> 0:28:45.440 as we skeptically look at that one point percent non 0:28:45.440 --> 0:28:48.280 acrul medium for the industry, and we look at more 0:28:48.320 --> 0:28:51.000 the delta of Okay, it went from three and a 0:28:51.040 --> 0:28:53.640 half four percent to six percent of the industry in picks, 0:28:53.640 --> 0:28:56.640 So that means that there's a number of transactions that 0:28:56.680 --> 0:28:59.600 potentially are tittering into becoming nonocruals. 0:29:00.360 --> 0:29:05.200 Pick might be a leading indicator, non accruals a lagging indicator. Correct, 0:29:06.240 --> 0:29:09.480 And then maybe one of the reasons we've probably seen 0:29:09.520 --> 0:29:11.360 a significant increase in PICK is because we had a 0:29:11.360 --> 0:29:14.280 five hundred and twenty five basis point increase in base rates. 0:29:15.160 --> 0:29:17.520 Those base rates are going to start to hopefully decline 0:29:17.520 --> 0:29:19.760 after the fifty basis point decline that we've seen or 0:29:19.880 --> 0:29:23.600 cut that we saw on interest rates, maybe that'll mitigate 0:29:23.880 --> 0:29:25.760 some of the increase in PICK activity. 0:29:26.160 --> 0:29:30.560 It felt like we're all ladies in waiting here to 0:29:30.640 --> 0:29:34.880 see that not a cruel increase and transfer that peak 0:29:34.920 --> 0:29:36.920 into non a crules. Not that I'm wishing for the industry, 0:29:36.920 --> 0:29:40.680 is just that we're obviously protecting the interest of creat investors, 0:29:40.680 --> 0:29:42.880 and it just looked like a quite a dramatic change 0:29:42.880 --> 0:29:45.680 of five hundred basis points of interest in the last 0:29:45.920 --> 0:29:47.320 two and a half years would have had a more 0:29:47.360 --> 0:29:51.440 meaningful credit issue for these highly levered companies. But I 0:29:51.440 --> 0:29:54.200 think that's flexibility, as you said, of capital coming from 0:29:54.200 --> 0:29:58.720 the sponsor's ability to peak transfer terms in the more 0:29:58.760 --> 0:30:03.000 invisible part of the credit universe allowed for firms to 0:30:03.080 --> 0:30:07.760 potentially buy time and now the fifty basis points, and 0:30:08.160 --> 0:30:10.560 just to kind of give you our baseline is additional 0:30:10.560 --> 0:30:13.200 one hundred two hundred and twenty five basis points between 0:30:13.240 --> 0:30:16.200 now and the end of next year. So this will 0:30:16.200 --> 0:30:21.840 alleviate interest expands quite significantly and also open the avenue 0:30:22.400 --> 0:30:26.360 for other strategic investors into these companies. As we know, 0:30:26.920 --> 0:30:28.560 the M and A market, the sponsor M and A 0:30:28.640 --> 0:30:31.120 market was pretty much dead over the last two years 0:30:31.160 --> 0:30:35.120 because sponsors simply could not agree on price of their 0:30:35.200 --> 0:30:38.080 companies in a rate environment that is quite elevated. I 0:30:38.080 --> 0:30:41.520 think this will definitely accelerate, particularly towards the end of 0:30:42.080 --> 0:30:43.920 this year. Now we have an election cycle which might 0:30:44.240 --> 0:30:46.400 put people a little bit still in a pause, but 0:30:46.520 --> 0:30:49.680 certainly for next year, we're expecting M and A to 0:30:49.760 --> 0:30:54.480 accelerate and therefore open various avenues of one, first, lower 0:30:54.480 --> 0:30:57.800 interest expense costs. A second coming to an agreement of 0:30:57.960 --> 0:31:00.640 enterprise value for these companies, which can allow firms to 0:31:00.680 --> 0:31:02.680 potentially restructure through to REMNA. 0:31:03.600 --> 0:31:07.640 Were also seeing things like synthetic pick. Do you see 0:31:07.720 --> 0:31:08.800 more of that in private credit? 0:31:09.480 --> 0:31:12.320 You know, we haven't necessarily as much. I think it 0:31:12.360 --> 0:31:15.400 does exist. It's hard in the public domain to be 0:31:15.440 --> 0:31:19.440 honest to distinguish that, and that those are kind of 0:31:19.480 --> 0:31:21.960 the things that we worry about, like is there and 0:31:22.000 --> 0:31:25.880 when we diligence the banks, particularly who provide potentially a 0:31:25.920 --> 0:31:30.000 derivative form for this for these type of activities, how 0:31:30.080 --> 0:31:32.400 much of their exposure is in derillity form has increased 0:31:32.480 --> 0:31:36.440 versus like a total return swap policias or versus a 0:31:36.520 --> 0:31:41.360 traditional you know lending. And we haven't seen significant pick 0:31:41.400 --> 0:31:45.160 up activity with some but not it's not prevalent yet 0:31:45.200 --> 0:31:48.160 in this cycle, like we saw of a synthetic bed 0:31:48.280 --> 0:31:51.000 term in the two thousand and seven six precursor of 0:31:51.080 --> 0:31:52.480 thousand eight crisis, and so. 0:31:52.480 --> 0:31:54.800 You really need to cue that fore voting music for 0:31:54.920 --> 0:31:56.120 terms like synthetic pick. 0:31:56.600 --> 0:31:59.320 And maybe this is too early to see this, but 0:31:59.400 --> 0:32:01.440 we are seeing a lot more in the broadly syndicated 0:32:01.480 --> 0:32:04.720 and public markets more of this credit around credited violence, 0:32:05.320 --> 0:32:07.160 and you know, there's a fear that it will spread 0:32:07.440 --> 0:32:13.280 to private credit as lenders and borrowers clash and borrows 0:32:13.280 --> 0:32:15.480 get more creative about how they do these deals. Are 0:32:15.520 --> 0:32:17.480 you worried about that as a as a phenomenon in 0:32:17.720 --> 0:32:18.640 private credit at all? 0:32:19.120 --> 0:32:19.160 No? 0:32:19.280 --> 0:32:22.360 Absolutely, Actually, Now, our regular diligence with the funds that 0:32:22.400 --> 0:32:24.880 we read. We have this discussion and I will kind 0:32:24.880 --> 0:32:26.920 of quote what one fund who said, like, look, we 0:32:26.960 --> 0:32:29.400 are probably more careful than ever who we get into 0:32:29.400 --> 0:32:32.400 a club with. It's almost like a marriage agreement, and 0:32:32.480 --> 0:32:36.640 the divorce can be very expensive. So it became I 0:32:36.640 --> 0:32:39.560 think that the awareness is a good thing. Actually, you know, 0:32:39.600 --> 0:32:44.640 folks say, well, would never do underwrite another transaction with 0:32:44.680 --> 0:32:47.320 somebody who would do this to us? For example, we 0:32:47.440 --> 0:32:51.120 and we distinguish which partners are civilized in this market, 0:32:51.120 --> 0:32:53.120 which are not. And again it goes back to this 0:32:54.080 --> 0:32:58.400 ecosystem point David is making. A lot of these firms 0:32:58.440 --> 0:33:01.720 are on Park Avenue or out They all worked at 0:33:01.880 --> 0:33:04.640 at some point at credits fees or Deutsche Bank or 0:33:04.680 --> 0:33:09.080 Goldman Sachs or originating leverage finance loans. It's a relatively 0:33:09.080 --> 0:33:12.040 small universe. We're talking about some funds that have thirty 0:33:12.040 --> 0:33:14.840 forty underwriters to maybe one hundred. These are not major 0:33:15.000 --> 0:33:18.120 couple hundred thousand people investment banks. So yes, there is 0:33:18.160 --> 0:33:22.680 this clubish element that the funds claim that folks will 0:33:22.680 --> 0:33:25.160 be behaving in the market, but certainly people are wary 0:33:25.200 --> 0:33:26.200 and watchful more than ever. 0:33:26.800 --> 0:33:28.760 I mean, it is it is clubbish. But there's also 0:33:28.840 --> 0:33:34.560 this massive increase in demand chasing not that many deals 0:33:35.040 --> 0:33:37.840 city in the US, which kind of leads to, you know, 0:33:38.200 --> 0:33:40.640 everyone who comes on this show who's a private credit 0:33:40.720 --> 0:33:43.440 manager says they only do the good deals. Assumely that 0:33:43.480 --> 0:33:45.400 means someone else is out there hanging on to the 0:33:45.480 --> 0:33:48.760 bad deals and they may suffer for it. Is there 0:33:48.800 --> 0:33:51.160 not a risk that you know, we'll just get, you know, 0:33:51.400 --> 0:33:54.440 similar situation as we are in the public markets. 0:33:55.360 --> 0:33:58.920 Absolutely, you know, we kind of when we analyze the 0:33:58.920 --> 0:34:02.400 balance sheets of the private lenders, we are very wary 0:34:02.440 --> 0:34:04.959 about stressing the twenty twenty one vintage we call it, 0:34:04.960 --> 0:34:08.960 which was the year of exuberance at zero rates or about, 0:34:09.640 --> 0:34:12.919 and both markets were very open. Not as concerned about 0:34:12.960 --> 0:34:15.520 twenty twenty two, and definitely the first half of twenty 0:34:15.560 --> 0:34:18.680 twenty three. But this year we are quite concerned with 0:34:19.239 --> 0:34:21.399 the influx of capital, as I said, three hundred billion 0:34:21.560 --> 0:34:25.360 or so executed in the broadly syndicated one hundred plus 0:34:24.800 --> 0:34:30.680 in the private credit market, spreads coming down, terms coming down. 0:34:30.719 --> 0:34:34.640 We actually did analysis of covenants in both markets, and 0:34:34.800 --> 0:34:38.840 private cred always has argued, well, we get covenants and 0:34:39.200 --> 0:34:42.400 the BSL market doesn't hence why we have better investment. 0:34:42.440 --> 0:34:46.279 That's been their pitch to investors, among other reasons. And 0:34:46.520 --> 0:34:48.680 we actually did the analysis and it's absolutely true that the 0:34:48.719 --> 0:34:51.480 private credit market for transactions that are out of three 0:34:51.600 --> 0:34:57.319 hundred million dollars still has kept both the pricing and 0:34:57.440 --> 0:35:00.680 also of the covenants. However, nor of you know, four hundred, 0:35:00.719 --> 0:35:05.400 particularly the billion dollar plus transactions, those covenant kind of 0:35:05.480 --> 0:35:08.480 light deals are quite converging, and that's what worries us, 0:35:08.520 --> 0:35:11.600 particularly about this exuberance of twenty twenty four. 0:35:12.600 --> 0:35:16.520 Another manager we had earlier this year talked about tourists 0:35:16.560 --> 0:35:21.680 in private credit and also this concept of democratization of 0:35:21.680 --> 0:35:24.799 private credit, you know, bringing more people in. One of 0:35:24.800 --> 0:35:29.040 the ways that the markets traditionally do this is through ETFs, 0:35:29.160 --> 0:35:31.040 and you know we are seeing ETFs, and I know 0:35:31.080 --> 0:35:32.319 you've done some work on it, so I did want 0:35:32.360 --> 0:35:37.240 to ask you about potential problems with that, you know, purely, 0:35:37.640 --> 0:35:40.640 you know, really basic terms. ETFs are supposed to be liquid. 0:35:40.719 --> 0:35:41.800 Private credit isn't. 0:35:42.600 --> 0:35:44.560 Yeah. I mean, if you look at the most recent 0:35:44.640 --> 0:35:47.399 announcement from a Poe, etcetera. And we kind of wrote 0:35:47.400 --> 0:35:50.239 a piece of that, is that the inequidity piece is 0:35:50.239 --> 0:35:53.480 actually relatively small. The bucket is I think fifteen percent, 0:35:53.840 --> 0:35:57.920 no more than that. So yes, it increases risks to 0:35:58.000 --> 0:36:01.600 even have greater than zero percent liquid assets in ATF. 0:36:01.680 --> 0:36:04.080 But this is I think what was advertised out there 0:36:04.200 --> 0:36:06.879 that this is the private creative. It's not quite. At 0:36:06.880 --> 0:36:08.640 the end of the day, It's going to be mostly 0:36:08.640 --> 0:36:12.040 public classes with a small bucket of private that's the beginning, 0:36:12.280 --> 0:36:15.399 because Paul will commit to market make if you will, 0:36:15.400 --> 0:36:19.399 and provide bids for that for those products, which means 0:36:19.400 --> 0:36:22.200 that hopefully there will be more transparency in the market 0:36:22.280 --> 0:36:25.960 building that. But investors need to be wary that potentially, 0:36:26.000 --> 0:36:28.000 you know, you can have your capital locked in and 0:36:28.040 --> 0:36:30.120 you have to stress this for what does that mean 0:36:31.200 --> 0:36:34.080 for that particular bucket. And of course, look, I cannot 0:36:34.120 --> 0:36:37.240 envision an ETF with much greater let's say, fifty percent 0:36:37.480 --> 0:36:40.640 liquid assets simply that kind of asset ability mismatch. I 0:36:40.640 --> 0:36:44.399 don't think that will work. So but broadly, stepping back, 0:36:44.440 --> 0:36:46.880 even outside of dtfs, you know what has worried us 0:36:46.960 --> 0:36:52.600 about democratization point is the retail focus of the BDCs, 0:36:52.719 --> 0:36:55.160 and not only actually the BDCs, but I'm just coming 0:36:55.239 --> 0:36:57.440 back from Europe from IPM, which is the largest private 0:36:57.440 --> 0:37:01.480 capital conference in Europe, and there was a new regulation 0:37:01.600 --> 0:37:05.440 now of called Elative, which will allow for retail investors 0:37:05.440 --> 0:37:08.920 as low as ten thousand dollars to invest in private 0:37:08.960 --> 0:37:13.640 credit there as well. So on one hand, we understand 0:37:13.760 --> 0:37:17.560 very well the macroeconomic premise of allowing retail investors to 0:37:17.600 --> 0:37:19.840 benefit from the growth of private markets and the returns 0:37:19.880 --> 0:37:23.359 the historic turns that have been more favorable, not over 0:37:23.360 --> 0:37:25.840 the last two years, but historically more favorable to the 0:37:25.840 --> 0:37:28.560 public market. So you want to allow folks to get 0:37:28.600 --> 0:37:33.000 access to that building of wealth. But on the other hand, 0:37:33.360 --> 0:37:38.240 education to investors and understanding the risks of capital being locked. 0:37:38.600 --> 0:37:41.040 This is not something that can trade overnight. The whole 0:37:41.080 --> 0:37:44.040 point of private credit is they said, the benefit of 0:37:44.120 --> 0:37:48.120 time and waiting on for better markets to mark your 0:37:48.160 --> 0:37:51.239 transactions if you will. That's something that needs to be 0:37:51.440 --> 0:37:54.719 very well absorbed. And I do worry when majority of 0:37:54.760 --> 0:37:57.200 the BDC is actually fundraising that has happened over the 0:37:57.239 --> 0:37:59.800 last few years has actually come from retail and retail 0:38:00.760 --> 0:38:04.080 non non publicly traded b deses. 0:38:04.560 --> 0:38:06.520 Yeah, I mean, if if you if you really want 0:38:06.560 --> 0:38:09.120 to get a significant amount of regulation foisted on you 0:38:09.200 --> 0:38:12.160 very quickly. A great way to do that is to 0:38:12.480 --> 0:38:15.400 is to overmarket to retail investors have some sort of 0:38:15.480 --> 0:38:18.560 unexpected situation blow up where things didn't quite work out 0:38:18.640 --> 0:38:20.759 is as you'd hoped, and all of a sudden you're 0:38:20.800 --> 0:38:25.080 going to have some pretty onerous regulations. So, you know, 0:38:25.280 --> 0:38:31.440 it just seems like the funds and the marketers in particular, 0:38:31.600 --> 0:38:33.640 I think, have to be very careful about the way 0:38:33.640 --> 0:38:37.879 that they roll out these products to UH to retail investors. Now, 0:38:38.400 --> 0:38:40.120 when you when you talk to a number of the 0:38:40.560 --> 0:38:43.720 sort of large white schee advisors, you know, they're talking 0:38:43.719 --> 0:38:46.359 about sort of a private wealth market where you're talking 0:38:46.400 --> 0:38:49.720 about individuals with more than one million dollars of liquid 0:38:49.719 --> 0:38:52.880 assets to invest. That scenario where you're going to have 0:38:52.920 --> 0:38:55.680 a little bit more you know, leeway going into you know, 0:38:55.760 --> 0:38:57.799 quote unquote retail, but when you're you know, sort of 0:38:57.800 --> 0:39:04.640 getting into UH masters distributed ETFs, it's an area where 0:39:04.800 --> 0:39:06.160 I think caution is warranted. 0:39:06.680 --> 0:39:07.040 Agreed. 0:39:07.280 --> 0:39:08.799 You've made the point Dave in the past that you know, 0:39:08.920 --> 0:39:11.399 you made these skiing analogy that you know some some 0:39:11.440 --> 0:39:13.560 of these slopes are just too steep for the for 0:39:13.600 --> 0:39:15.520 the you know, the tourists, and you know it should 0:39:15.560 --> 0:39:18.640 be only professionals getting involved. I mean, we're not all 0:39:18.840 --> 0:39:22.520 heading into a world of trouble with with everyone piling 0:39:22.520 --> 0:39:23.560 into private credit right. 0:39:23.440 --> 0:39:25.840 Now, right right, yeah. I mean the way sort of 0:39:25.880 --> 0:39:28.960 that that ski ski analogy is at the I mean there, 0:39:29.040 --> 0:39:30.719 you know, there's a risk everywhere on the on the 0:39:30.760 --> 0:39:34.080 ski slopes, even on on on the the green circles 0:39:34.120 --> 0:39:37.839 where I've dislocated my left shoulder with a with a 0:39:37.880 --> 0:39:42.719 caught edge. But you know that if you come prepared, 0:39:42.800 --> 0:39:44.560 if you've got the right equipment, if you know your 0:39:44.600 --> 0:39:47.000 way around the mountain, if you you know know the slope, 0:39:47.040 --> 0:39:48.360 you know where the rocks are, where the trees are, 0:39:48.360 --> 0:39:51.680 where the cliffs are, then you know you've taken adequate 0:39:51.680 --> 0:39:54.360 precautions and you know, game on, go have some fun. 0:39:55.320 --> 0:39:57.840 If you don't have all of that in your in 0:39:57.920 --> 0:40:00.720 your in your backpack, then you might want all look elsewhere. 0:40:01.560 --> 0:40:06.000 You talked and recently about how pick just go back 0:40:06.000 --> 0:40:08.480 to that point is a kind of a bridge for 0:40:08.600 --> 0:40:12.440 some of these struggling borrowers to you know, get to 0:40:12.480 --> 0:40:15.320 a point where we have lower rates. You talked about 0:40:15.480 --> 0:40:17.640 your outlook for rates to come down and Obviously, the 0:40:17.640 --> 0:40:21.000 FED is embarking on quite an aggressive easing campaign right now, 0:40:21.000 --> 0:40:25.920 but is it enough do you think to avoid further distress? 0:40:25.960 --> 0:40:29.040 I mean there still must be some unsustainable capital stretches out. 0:40:28.880 --> 0:40:32.640 There, right absolutely. I mean when we actually stressed as 0:40:33.680 --> 0:40:37.480 for a rating purpose our BDCs to qualify for the 0:40:37.480 --> 0:40:40.960 investment Great status, we actually use the two thousand and 0:40:41.000 --> 0:40:44.399 seven two thousand and eighty fault cycle, so which means 0:40:44.400 --> 0:40:47.480 that we assume that we're going to get into at 0:40:47.600 --> 0:40:52.800 least you know, you know, eighty percent kind of price 0:40:52.840 --> 0:40:57.239 of the broadly syndicated the leveraginal market defaults increasing to 0:40:57.760 --> 0:41:00.120 at least five and a half percent kind of on 0:41:00.160 --> 0:41:03.480 the crules. And that's how we test the capital cushion 0:41:04.000 --> 0:41:09.080 for the disease. We you know, nobody can really uh 0:41:09.680 --> 0:41:12.719 uh predict where the market can go. What what we 0:41:12.760 --> 0:41:17.560 are doing in our analysis is ensuring that our ratings 0:41:17.600 --> 0:41:20.640 can withstand the test of time and test of what 0:41:20.760 --> 0:41:22.640 the history has shown of where our kind of worst 0:41:22.680 --> 0:41:25.960 case scenarios have been in leverage loans. And I'm talking 0:41:26.000 --> 0:41:28.239 about a market back in two thousand and eight. We 0:41:28.320 --> 0:41:30.200 use a scenario when there was a three hundred billion 0:41:30.239 --> 0:41:32.520 dollars of Hong transactions for a year and a half 0:41:32.560 --> 0:41:37.239 on banks balance sheets. So I think that it's a 0:41:37.280 --> 0:41:41.640 solid test. Of course, things can always get worse geopolitics, 0:41:41.840 --> 0:41:44.520 things that we cannot predict. Think about the COVID market, 0:41:44.520 --> 0:41:46.919 et cetera. How much extra liquidity it can really come 0:41:47.320 --> 0:41:51.080 from FED balance sheet. That's quite leverage we know today. 0:41:51.640 --> 0:41:56.600 But we do believe that what we're seeing today is 0:41:58.640 --> 0:42:02.800 is probably not the worst case scenario. We do believe 0:42:02.840 --> 0:42:07.680 that our base case is avoiding orthorization scenario. However, the 0:42:07.800 --> 0:42:12.160 downside case, when some of this downside risks materialize, make 0:42:12.239 --> 0:42:16.160 the default rate in the leverage finance cycle jumps significantly 0:42:16.200 --> 0:42:18.880 from LESSI three and a half too close to seven 0:42:18.960 --> 0:42:23.400 eight percent. So again, every investor should always do a 0:42:23.400 --> 0:42:27.160 scenario analysis and test their risk appetite based on that, 0:42:27.280 --> 0:42:29.720 and we're trying to do that for benefit or ratings 0:42:29.760 --> 0:42:30.360 and investors. 0:42:30.600 --> 0:42:34.560 So maybe switch gears a little bit. Yesterday you did 0:42:34.640 --> 0:42:38.400 the not you, Moody's did the unthinkable. You upgraded a 0:42:38.440 --> 0:42:41.879 couple of BDCs. You also have done a nice job, 0:42:41.920 --> 0:42:44.200 I think, and I think investors agree, have done a 0:42:44.280 --> 0:42:47.880 nice job of differentiating amongst BDCs You've got some that 0:42:47.920 --> 0:42:50.719 had positive outlooks and some that had negative outlooks, and 0:42:50.760 --> 0:42:55.560 that I think is quite helpful for people to see. What, 0:42:56.640 --> 0:43:00.800 in your view is the ceiling of where a BDC 0:43:01.000 --> 0:43:04.440 rating can go, and how do you think about the 0:43:04.440 --> 0:43:07.719 interplay between Let's use Blackstone as an example because they 0:43:07.719 --> 0:43:10.800 were upgraded yesterday. There are two funds, Blackstone Private Credit 0:43:10.840 --> 0:43:15.439 and Blackstone Secured Lending, one notch to BAA two they're 0:43:15.440 --> 0:43:18.799 associated with. I don't think Moody's rates Blackstone, but it 0:43:18.840 --> 0:43:22.360 is rated A by some of your friendly competitors. Obviously 0:43:22.640 --> 0:43:27.680 A plus a well rated company. Ceiling for BDCs, where 0:43:27.680 --> 0:43:30.440 could it go as kind of monoliine type entities that 0:43:30.480 --> 0:43:33.480 are wholesale funded, And how do you think about the 0:43:33.480 --> 0:43:36.880 interplay between these large white chew advisors and those that 0:43:36.960 --> 0:43:37.760 don't have them. 0:43:38.120 --> 0:43:40.680 Great question. Yes, So we read around the nord of 0:43:40.719 --> 0:43:46.280 thirty BDCs in the public domain, from which we placed 0:43:46.760 --> 0:43:49.279 six on positive outlook while ago and we have three 0:43:49.280 --> 0:43:51.759 your negative outlook and we took an action on three, 0:43:51.800 --> 0:43:55.280 as you noted, two Blackstone entities and one Eras Capital. 0:43:56.600 --> 0:44:01.400 So first a question on ceiling. Look, we have a 0:44:01.400 --> 0:44:04.319 full rating spectrum C A two three ple a. So 0:44:05.000 --> 0:44:08.160 celink in theory does not exist. But maybe I'll try 0:44:08.200 --> 0:44:11.200 to answer that question through the median bank creating today. 0:44:12.320 --> 0:44:15.080 The medium bank creating or what we called baseline create 0:44:15.120 --> 0:44:18.440 assessment without additional support in the US is B double 0:44:18.480 --> 0:44:20.960 A one. So, and we talk about kind of a 0:44:21.040 --> 0:44:25.359 normal regional cohor without significant concentration in commercial real estate, 0:44:26.440 --> 0:44:31.480 A highly in a more concentrated regional bank we have 0:44:31.640 --> 0:44:33.840 with a commercial real estate book would be BA A 0:44:33.880 --> 0:44:36.880 two B doua A three equivalent, if you will. So 0:44:37.960 --> 0:44:39.880 what you can see is a convergence. But there are 0:44:39.880 --> 0:44:42.400 two different factors. One is the low leverage. We just 0:44:42.440 --> 0:44:45.040 talked about the banks on average being levered nine times. 0:44:45.080 --> 0:44:48.080 We're talking here medium leverage on one point one times 0:44:48.120 --> 0:44:51.120 today for the BBCs we just mentioned so significantly. What 0:44:51.200 --> 0:44:54.480 the difference is. It's low leverage, Yes, it's a monoligne. 0:44:54.480 --> 0:44:57.640 But the diverse we're looking at difversification of portfolio across sectors. 0:44:58.000 --> 0:45:01.520 And then key differentiation and with the banks relative to 0:45:01.680 --> 0:45:06.080 the BDCs is the funding aspect. There's no overnight funding. 0:45:07.280 --> 0:45:11.439 The only like two parts of risky if you will, 0:45:11.520 --> 0:45:15.520 funding more risky funding is the secure funding from the banks, 0:45:15.520 --> 0:45:18.200 which is subject to quarterly evaluation. But I know that 0:45:18.200 --> 0:45:21.640 that those margining loans really in order to be effectively 0:45:21.719 --> 0:45:24.800 margined for additional collateral, we have to have a major 0:45:24.840 --> 0:45:29.520 correction talking on average values of sixty percent loan to value, 0:45:29.520 --> 0:45:31.040 which means that a lot of these loans have to 0:45:31.080 --> 0:45:34.320 lose forty percent of their value. So again that's quite 0:45:34.400 --> 0:45:38.560 a tail scenario for a significant margin risk on the 0:45:38.560 --> 0:45:42.239 secured book unsecured credles which is a dominant funding for 0:45:42.280 --> 0:45:47.200 this investment. Greate BDCs a domain basically cannot really withdraw 0:45:47.200 --> 0:45:49.840 their money if you will, and then you have pervonent equity. 0:45:50.280 --> 0:45:54.360 So the funding risk, one can argue is pretty is 0:45:54.400 --> 0:45:58.240 pretty muted. Where the funding risk comes true is indeed 0:45:58.440 --> 0:46:01.719 the in the retail on the BDCs liking BI cred 0:46:02.120 --> 0:46:04.640 But for us, where we spend a lot of time 0:46:04.680 --> 0:46:08.680 with entity like b credit to be to be eligible 0:46:09.040 --> 0:46:14.160 for upgrade was actually differensification of funding on their secured basis. 0:46:14.200 --> 0:46:18.000 So and also how the provision for that maximum withdrawal 0:46:18.040 --> 0:46:21.640 of liquidity of like twenty percent a year from the 0:46:21.680 --> 0:46:25.120 retail book, and it's about what availability of lines of 0:46:25.000 --> 0:46:28.560 credit for example from number of banks. If an entity 0:46:28.640 --> 0:46:32.280 like this had high leverage or one or two banks 0:46:32.320 --> 0:46:35.640 only providing that liquidity support, that definitely would not have 0:46:35.719 --> 0:46:38.279 been a reason for upgrade up or even investment grade rating. 0:46:38.560 --> 0:46:42.440 But somebody like Blackstone, who has absolutely one of the 0:46:42.520 --> 0:46:46.440 leading relationships with the global banks, we're talking about numerous 0:46:46.480 --> 0:46:49.719 bank clients existing out there to support that liquidity and 0:46:49.800 --> 0:46:54.200 also significant liquid acid bucket to provision for that, and 0:46:54.920 --> 0:46:58.920 in peril with the lowest non a cruel statistic in 0:46:58.960 --> 0:47:03.799 the BDC cocor we read tipped us over that additional 0:47:03.840 --> 0:47:06.560 line of investment grade. 0:47:06.600 --> 0:47:08.959 Just to go back to where we started, and we're 0:47:09.080 --> 0:47:12.880 almost had a time unfortunately, but a lot of people 0:47:13.040 --> 0:47:15.680 still worry about private credit. Our last guest said it 0:47:15.719 --> 0:47:18.480 was the one thing that concerned him. There was an 0:47:18.480 --> 0:47:22.400 insurance company from Asia this week saying that there was 0:47:22.400 --> 0:47:24.719 going to be a reckoning. It's not the first time 0:47:24.719 --> 0:47:28.120 we've heard that from the market, and we're hearing it 0:47:28.120 --> 0:47:30.960 from regulators, We're hearing it from from multilaterals and all 0:47:31.000 --> 0:47:35.799 sorts of people are they is this concern misplaced? They 0:47:35.840 --> 0:47:39.239 just don't understand what it is that we're talking about here, 0:47:39.560 --> 0:47:42.640 or are there really some concerns that we should we 0:47:42.680 --> 0:47:43.720 should be talking about. 0:47:44.680 --> 0:47:47.640 Again, it goes back to the pace of growth and 0:47:47.719 --> 0:47:50.799 where the funding comes from. It's it's going to be 0:47:50.880 --> 0:47:53.680 very important to get more transparency from the banks about 0:47:53.880 --> 0:47:56.520 is there some kind of, as you said, synthetic leverage, 0:47:56.560 --> 0:47:59.480 additional leverage coming to this market and it's not visible 0:47:59.520 --> 0:48:03.600 to us. We're talking about trillion point seven market from 0:48:03.680 --> 0:48:07.160 which you know we moved is very roughly three hundred 0:48:07.239 --> 0:48:11.280 billion of assets through the BDC cohort in the US, 0:48:11.840 --> 0:48:14.760 So there's still lots and the dark and I definitely 0:48:14.800 --> 0:48:17.560 welcome and all of us who are in the industry 0:48:17.560 --> 0:48:22.160 analyzing it, welcome more transparency about what's the leverage outside 0:48:22.160 --> 0:48:24.839 of the BDC coord out there. How much of these 0:48:24.840 --> 0:48:29.000 funds indeed use a leverage that's secured that's potentially more 0:48:29.080 --> 0:48:32.480 margin driven. So in order to answer that question, we 0:48:32.600 --> 0:48:35.480 really need more transparency, particularly from the banks who are 0:48:35.480 --> 0:48:36.400 funding this market. 0:48:36.880 --> 0:48:40.640 Yeah, but I don't think that you've got people are 0:48:40.640 --> 0:48:42.319 going to go back and think about what happened during 0:48:42.320 --> 0:48:46.640 the Financial crisis, where you essentially had unlimited leverage built 0:48:46.640 --> 0:48:50.600 into the system through through CDOs, derivatives and derivatives that 0:48:51.080 --> 0:48:53.200 aren't used in the at least in the same way 0:48:53.320 --> 0:48:55.840 or the same degree in this area part of the world. 0:48:56.320 --> 0:48:58.480 So I think that makes a big difference. It doesn't 0:48:58.520 --> 0:49:01.560 strike me, and I lived through the financial crisis as 0:49:02.239 --> 0:49:07.480 a desk analyst at a large Swiss bank. It just 0:49:07.560 --> 0:49:12.920 doesn't seem like the risk transmission mechanism is nearly as 0:49:13.000 --> 0:49:17.360 potent in the way that private credit is structured today 0:49:17.480 --> 0:49:19.920 as it has been in maybe some other areas that 0:49:19.960 --> 0:49:21.640 have caused systemic problems in the past. 0:49:22.000 --> 0:49:25.160 I tend to agree with that, and as I noted, 0:49:25.160 --> 0:49:28.200 a lot of this is permanent capital by pension funds 0:49:28.480 --> 0:49:32.560 originally who are the largest first investors, insurance companies, sovereign 0:49:32.600 --> 0:49:38.880 wealth funds, and only most recently this more flight confident 0:49:38.920 --> 0:49:42.200 of fuel investors came into the space like the retail investors. 0:49:42.560 --> 0:49:45.360 So hence why we are really looking for those pokts 0:49:45.360 --> 0:49:47.759 and we want to ensure from a systemic stability that 0:49:48.120 --> 0:49:52.600 there is indeed attention about disclosures and particularly for those 0:49:52.640 --> 0:49:55.560 type of investors. But for you know, I would agree 0:49:55.719 --> 0:49:58.680 David that we haven't seen those that kind of exuberance 0:49:58.719 --> 0:50:01.880 of innovative structures that probably exists, but not to that 0:50:02.040 --> 0:50:04.640 level or you know, as I said, overnight risk derivatives, 0:50:04.719 --> 0:50:09.240 leverage and leverage synthetic structures that compare to two thousand 0:50:09.239 --> 0:50:12.000 and seven thousand and eight, Which doesn't mean that will 0:50:12.040 --> 0:50:15.600 not happen, but that's something that we number of eyes 0:50:15.960 --> 0:50:18.640 are still watching and continue to watch, and we will 0:50:18.680 --> 0:50:19.600 be part of that as well. 0:50:19.719 --> 0:50:23.359 Yeah, that whole issue of demand liability seems much more 0:50:23.360 --> 0:50:27.320 contained here, which is a great's that's generally what causes 0:50:27.360 --> 0:50:30.759 a financial institution or sector to get into trouble. You know, 0:50:30.800 --> 0:50:33.120 you saw it with Silicon Valley Bank a year and 0:50:33.160 --> 0:50:37.000 a half ago. It's it's that demand liability issue seems 0:50:37.000 --> 0:50:38.359 to be pretty well stitched up here. 0:50:38.920 --> 0:50:41.319 That's probably what worries me. I've been doing this way 0:50:41.360 --> 0:50:43.480 too long, and I worry about complacency and things that 0:50:43.480 --> 0:50:44.880 we can't see. But if you have to pick one thing, 0:50:44.880 --> 0:50:46.640 and what's the one thing that worries the most about 0:50:46.640 --> 0:50:47.520 private credit right now? 0:50:48.880 --> 0:50:52.800 You know what worries me is that everybody wants to 0:50:52.840 --> 0:50:56.799 be a poll and I'll explain that. You know, in 0:50:56.840 --> 0:50:59.480 the back in the financial crisis also where I worked 0:50:59.520 --> 0:51:03.560 for one of the investment banks, and there was a 0:51:03.640 --> 0:51:07.680 Chase to become Goldman Sachs because Goldman had a premier 0:51:07.880 --> 0:51:11.040 let's say structured credit franchise or deriality franchise, et cetera. 0:51:11.120 --> 0:51:13.160 And then we know that the banks who were trying 0:51:13.160 --> 0:51:17.520 to be Goldman always do not exist these days. And 0:51:17.560 --> 0:51:21.480 there were international n US banks and these days a 0:51:21.560 --> 0:51:23.440 Poll and some of the other in a large asset 0:51:23.480 --> 0:51:25.759 manager just like Blackstone, are leading the way they have. 0:51:26.120 --> 0:51:29.120 They're quite institutionalized, with a lot of capital and a 0:51:29.160 --> 0:51:32.480 lot of great talent. And it only requires, as you say, 0:51:32.520 --> 0:51:36.360 the tourists and and here I'm not referring to the 0:51:36.400 --> 0:51:39.920 retail investors, but you know, everybody wants to raise capital 0:51:39.960 --> 0:51:41.799 to be part of the six y you know, new 0:51:41.840 --> 0:51:45.759 acid class of private credit, and does it in a 0:51:46.040 --> 0:51:49.480 wrong way, and then it vines a shock to the 0:51:49.520 --> 0:51:53.040 system just because it was done in a very inappropriate way, 0:51:53.440 --> 0:51:56.480 either from a leverage or or type of investment, and 0:51:56.520 --> 0:51:59.640 then can create an issue of either overreaction from a 0:51:59.680 --> 0:52:04.279 regular or reaction from retail investors. So that's something to 0:52:04.280 --> 0:52:06.799 watch where the capital is coming from, formation of new 0:52:06.840 --> 0:52:11.239 funds talent. That's how there's limited talent, I would say 0:52:11.320 --> 0:52:14.440 more than limited capital these days, so for sure the 0:52:14.440 --> 0:52:16.400 investors should be watching where it plays their money. 0:52:16.640 --> 0:52:18.960 Great stuff and ours off global head of Private Credit 0:52:19.000 --> 0:52:20.680 at Moody's Ratings. It has been a pleasure having you 0:52:20.760 --> 0:52:23.800 on the Credit Edge and David Havens with Bloomberg Intelligence, 0:52:23.800 --> 0:52:25.240 thank you for so much for joining us today. 0:52:25.400 --> 0:52:27.000 Let's do it again for. 0:52:27.000 --> 0:52:29.040 Even more analysis. Read all of David's great work on 0:52:29.040 --> 0:52:32.480 the Bloomberg Terminal. Bloomberg Intelligence is part of our research department, 0:52:32.520 --> 0:52:35.520 with five hundred analysts and strategists working across all markets. 0:52:35.760 --> 0:52:38.680 Coverage includes over two thousand equities and credits and outlooks 0:52:38.680 --> 0:52:41.360 on more than ninety industries and one hundred market indices, 0:52:41.600 --> 0:52:44.960 currencies and commodities. And please do subscribe to the Credit 0:52:45.040 --> 0:52:48.120 Edge wherever you get your podcasts. We're on Apple, Spotify 0:52:48.200 --> 0:52:51.719 and all other good podcast providers including b Podgo on 0:52:51.719 --> 0:52:54.640 the Bloomberg Terminal, give us a review, tell your friends, 0:52:54.680 --> 0:52:58.479 or email me directly at Jcrumby eight at Bloomberg dot net. 0:52:59.160 --> 0:53:01.319 I'm James Crumby's been a pleasure having you join us 0:53:01.360 --> 0:53:03.279 again next week on the Credit Edge.