WEBVTT - A 'Cheat Code' for the Bond Market 0:00:13.720 --> 0:00:17.200 Hello, and welcome to What Goes Up a Weekly markets podcast. 0:00:17.560 --> 0:00:20.200 My name is Mike Reagan, I'm a senior editor at Bloomberg, 0:00:20.520 --> 0:00:24.320 and I'm Emily Graffeo, across asset reporter at Bloomberg, filling 0:00:24.320 --> 0:00:27.200 in for Build on a Rich and this week on 0:00:27.240 --> 0:00:30.240 the show. Well, if you wanted to pick a single 0:00:30.400 --> 0:00:33.839 day of market action to serve as a microcosm for 0:00:33.880 --> 0:00:37.240 the whole year, we got it. This week, stocks, bonds, 0:00:37.240 --> 0:00:40.720 and currency markets all had a collective freak out over 0:00:40.800 --> 0:00:45.320 this stubbornly high inflation. This after August consumer price index 0:00:45.400 --> 0:00:48.239 came in a bit hotter than economists had expected, but 0:00:48.320 --> 0:00:50.920 it really highlighted what a tricky year it's been for 0:00:51.000 --> 0:00:55.760 balanced portfolios that invest in both stocks and bonds. So 0:00:55.800 --> 0:00:59.000 how are managers of those funds dealing with this year's turbulence. 0:00:59.400 --> 0:01:01.640 We'll get into with with a fund manager with a 0:01:01.680 --> 0:01:05.240 balance fund who's beating his benchmark pretty nicely this year. 0:01:05.920 --> 0:01:08.319 But first, Emily, I gotta say thank you for filling 0:01:08.440 --> 0:01:11.440 in for Vildonna, who's off again this week. Even though 0:01:11.480 --> 0:01:15.560 this is going to cause even more anxiety for Valdonna herself, 0:01:15.600 --> 0:01:19.039 I appreciate it. Yeah, no problem, you'd think, you know, 0:01:19.080 --> 0:01:21.080 she would go on that vacation and she would be 0:01:21.080 --> 0:01:24.240 more relaxed. But I'm not sure if that is the case. 0:01:24.920 --> 0:01:26.720 We'll work on it. But the only rule you have 0:01:26.800 --> 0:01:28.880 to know, Emily, the only ground rule for a co 0:01:29.000 --> 0:01:32.000 host is you have to laugh enthusiastically at my jokes, 0:01:32.880 --> 0:01:35.720 which I will absolutely and because I will add you 0:01:35.760 --> 0:01:40.440 to my professional network on LinkedIn. Yes, yes, finally, finally, 0:01:41.120 --> 0:01:44.280 because I gotta say Vldonna is not very good at 0:01:44.360 --> 0:01:46.760 that requiremental laughing at my jokes. I think it's a 0:01:47.000 --> 0:01:49.240 you know, she eats nothing but califlower. I think it's 0:01:49.240 --> 0:01:53.280 a it's a protein deficiency or some kind of vitamin deficiency. 0:01:53.320 --> 0:01:55.360 That that's the story I'm going with. Yeah, yeah, too 0:01:55.360 --> 0:01:59.800 many chickpeas, not enough meat. But one next, she's great 0:01:59.800 --> 0:02:02.120 at and she has a great journalist, and she's great 0:02:02.360 --> 0:02:07.320 at finding excellent guests for this podcast, including this week. 0:02:07.920 --> 0:02:11.639 She brought this week's guests on and then abandon us. 0:02:11.639 --> 0:02:13.760 But um, we're very excited to have them. Money tell 0:02:13.840 --> 0:02:16.600 tell the listeners who this week's guest is. So today 0:02:16.639 --> 0:02:19.480 on the show, we have George Cippolini, and he is 0:02:19.600 --> 0:02:23.760 a portfolio manager of Pen mutual asset Management, and he 0:02:23.840 --> 0:02:28.000 also co leads the management of the balanced income strategy 0:02:28.120 --> 0:02:30.520 at the firm. So, George, welcome to the show. And 0:02:31.120 --> 0:02:33.079 most exciting is you're a Philly guys. So the most 0:02:33.080 --> 0:02:36.280 important first question is you gotta give us your cheese 0:02:36.280 --> 0:02:39.919 steak place. What's your what's your favorite cheesesteake place? Okay, 0:02:39.960 --> 0:02:41.200 so I'm going to give a little bit of a 0:02:41.280 --> 0:02:44.440 nuanced answer if that's okay. It's definitely not Pats and Gino's, 0:02:44.480 --> 0:02:46.720 which a lot about out of town or tend to like, 0:02:47.360 --> 0:02:50.560 um loved love John's Rose Pork, which again in the 0:02:50.639 --> 0:02:52.640 name it says rose pork and not cheese steaks. But 0:02:52.680 --> 0:02:55.280 they make a great cheese steak. But the best sandwich 0:02:55.280 --> 0:02:57.400 in Philly, if anyone wants to go, it's in the 0:02:57.400 --> 0:03:00.080 writing Terminal market and you go to the Nicks and 0:03:00.120 --> 0:03:02.960 you get a brisket of beef sandwich. It's outrageous, it's 0:03:03.000 --> 0:03:05.519 even I mean, I think it's better than a Energies steak. 0:03:06.400 --> 0:03:09.799 That's my crest. I'll accept that answer. Actually, I you know, 0:03:09.880 --> 0:03:11.600 I've heard about that place for years and I don't 0:03:11.600 --> 0:03:15.200 think I've ever actually had The next roast beef. But good, 0:03:15.320 --> 0:03:18.240 that's some good, solid research, Philly research right there, Emily, 0:03:18.240 --> 0:03:20.920 this guy knows what he's talking about. Yeah, that sounds 0:03:21.120 --> 0:03:23.440 that sounds delicious. I think we'll have to have another 0:03:23.480 --> 0:03:29.000 episode where we just talk about brisket and yes, yes, absolutely, 0:03:29.000 --> 0:03:31.560 But George, why don't you start us off and talk 0:03:31.639 --> 0:03:34.200 a little bit about your current role um and your 0:03:34.200 --> 0:03:36.480 background and how you got to you know, where you 0:03:36.480 --> 0:03:41.480 are today at Pen Mutual. Sure, absolutely so a little 0:03:41.480 --> 0:03:44.440 bit of a different path than I think most portfolio 0:03:44.480 --> 0:03:46.600 managers in terms of getting to where I am today 0:03:46.640 --> 0:03:49.080 at Pen Mutual, which we're at a great place and 0:03:49.120 --> 0:03:51.400 we're grateful to be here. But but I grew up 0:03:51.400 --> 0:03:55.000 doing concrete work with my family in Philadelphia. UM, at 0:03:55.040 --> 0:03:57.560 around nineteen years old. I didn't take my S A 0:03:57.640 --> 0:03:59.880 T S. I didn't do any of that good stuff, 0:04:00.040 --> 0:04:02.840 no plans to go to college. Then I met my wife, 0:04:02.880 --> 0:04:06.480 who's from South Philadelphians, pretty strong willed, and and she said, 0:04:06.520 --> 0:04:08.320 you're going to go to college, and so I did. 0:04:08.440 --> 0:04:11.080 I listened and um, and you know, it was a 0:04:11.120 --> 0:04:13.360 great path for me, who ended up going to uh 0:04:13.400 --> 0:04:17.200 A junior college, transferred over to Drexel University, worked on 0:04:17.240 --> 0:04:19.840 the floor of the Philly Stock Exchange back in the 0:04:19.920 --> 0:04:23.599 late nineties. So um, really the the inception of my 0:04:23.680 --> 0:04:26.719 career was very much impactful to me, as it is 0:04:26.760 --> 0:04:29.360 to most young people in terms of I got to 0:04:29.400 --> 0:04:32.400 see an incredible boom in terms of the tech bubble 0:04:32.480 --> 0:04:34.719 and then a bust after and so that really was 0:04:34.760 --> 0:04:37.719 the inception of my career, which kind of led me 0:04:37.800 --> 0:04:42.360 to fortune. Fortunately to a small little investment shop called 0:04:42.360 --> 0:04:44.800 the Killing Group in Berwin, p A. It was at 0:04:44.839 --> 0:04:47.560 break even at the time. We got no bosses our 0:04:47.640 --> 0:04:51.040 first few years in the business um, but but eventually 0:04:51.080 --> 0:04:53.640 we grew this small little income fund called the Berwin 0:04:53.680 --> 0:04:57.320 Income Fund from about forty fifty million in assets all 0:04:57.360 --> 0:04:58.919 the way up to two and a half billion in 0:04:58.960 --> 0:05:03.200 assets u at at peak. And what we did was 0:05:03.240 --> 0:05:05.120 a little different. We were a little off the beaten 0:05:05.279 --> 0:05:08.800 beaten path in terms of our strategy. We were a 0:05:08.800 --> 0:05:11.919 small firm with twelve people, so we were very independent minded, 0:05:12.480 --> 0:05:16.160 very long term focus, traditional value investors. And what we 0:05:16.200 --> 0:05:19.400 did was our director of research, Leader Out, had this 0:05:19.520 --> 0:05:22.240 great investment process and I just kind of took it 0:05:22.640 --> 0:05:24.599 um from what he did on the equity side and 0:05:24.640 --> 0:05:27.560 applied it to the world of income and the fixed 0:05:27.560 --> 0:05:30.360 income and the high owned bonds and investment grade bonds 0:05:30.360 --> 0:05:33.960 and preferred stocks and convertible bonds, and the process really worked. 0:05:34.120 --> 0:05:38.400 It's a it's a strategy that's differentiated in terms of 0:05:38.480 --> 0:05:41.320 we are very flexible. We can invest across market caps, 0:05:42.040 --> 0:05:45.479 we can invest across the company's capital structure, and with 0:05:45.640 --> 0:05:49.200 the sole goal really of just adding value within this universe. 0:05:49.240 --> 0:05:52.479 We don't want we don't want necessarily the highest building securities. 0:05:53.040 --> 0:05:55.680 We want the companies with and securities with the best 0:05:55.680 --> 0:05:59.039 balance of risk and reward. Um in terms of that 0:05:59.800 --> 0:06:02.839 uh um, you know that whole direction. So that's a 0:06:02.839 --> 0:06:04.880 little quick and dirty. I ended up at Pen Mutual 0:06:05.000 --> 0:06:07.440 just just a few years ago. Um, you know, we 0:06:07.520 --> 0:06:10.080 sold our firm, the Killing Group, And and after taking 0:06:10.120 --> 0:06:12.880 some time off, I wanted to stay in the business 0:06:12.880 --> 0:06:14.840 and keep doing this because it really is a passion 0:06:15.200 --> 0:06:17.040 and and and I just felt like I could. I 0:06:17.480 --> 0:06:20.640 still had some uh some guests in the tank, and 0:06:20.640 --> 0:06:23.920 and and wanted to contribute somewhere And was fortunate enough 0:06:23.960 --> 0:06:26.120 to join Peen Mutual, with which has you know, a 0:06:26.200 --> 0:06:30.240 great staff of over thirty people on the investment team. 0:06:30.360 --> 0:06:32.839 They have a ton of resources manage over thirty billion 0:06:32.839 --> 0:06:35.880 in assets, the bulk of that being the insurance assets, 0:06:36.400 --> 0:06:39.679 and then the resources again from a marketing and support 0:06:39.760 --> 0:06:43.560 standpoint to start a new fund like like like our products. 0:06:43.600 --> 0:06:46.359 So I balanced income. So just really grateful to be 0:06:46.400 --> 0:06:48.160 back in it. And uh, we have a two year 0:06:48.200 --> 0:06:51.279 track record now and so far, so good. We're we're 0:06:51.480 --> 0:06:53.560 you know, very very highly ranked at the moment in 0:06:53.640 --> 0:06:56.279 terms of our morning Star category. And as you both mentioned, 0:06:56.640 --> 0:07:01.120 came right back into some really incredible and at concredible 0:07:01.120 --> 0:07:03.680 times and his dark times for sure. That that's a 0:07:03.720 --> 0:07:06.520 great backstory, George. You know, I'm glad you listen to 0:07:06.600 --> 0:07:08.960 your wife. You know, I's all when friends get married. 0:07:09.000 --> 0:07:12.480 I say. The key too's a successful marriage is you 0:07:12.520 --> 0:07:14.560 have to start off with the assumption the wife is 0:07:14.560 --> 0:07:16.800 always right. You get you gotta listen to her. That 0:07:17.120 --> 0:07:18.640 I haven't talked to many people who worked on the 0:07:18.640 --> 0:07:22.120 Philly Stock Exchange. That's interesting too. What were you like 0:07:22.160 --> 0:07:26.080 a specialist market maker? So I also worked at a 0:07:26.120 --> 0:07:30.480 specialist post for for Susquehanna, which and Mike, let me 0:07:30.480 --> 0:07:33.040 tell you something. You talk about experience, so you know, 0:07:33.120 --> 0:07:36.160 and there is as a you know, young teenager, early twenties. 0:07:36.240 --> 0:07:38.640 And and in the morning we had math class. We 0:07:38.680 --> 0:07:40.720 went to work and they paid for a lunch which 0:07:40.760 --> 0:07:43.040 was awesome, breakfast in lunch Susquehanna is a great shop. 0:07:43.480 --> 0:07:46.480 And then um, and right afterward we would go play poker. 0:07:46.880 --> 0:07:49.640 So I mean, if you if you just think about 0:07:49.680 --> 0:07:52.680 you know, risk rewarding, game theory and math and just 0:07:52.720 --> 0:07:55.480 the application of all that on a daily basis, that 0:07:55.640 --> 0:07:59.000 really stimulated my interest because before that I didn't know 0:07:59.080 --> 0:08:02.040 much about investing at all. And um, but that really 0:08:02.080 --> 0:08:06.040 stimulated my interest in the markets. Uh, my interest especially 0:08:06.080 --> 0:08:08.600 in risk and reward and the behavior of the markets, 0:08:08.600 --> 0:08:11.440 which I think is something that's overlooked and maybe a 0:08:11.480 --> 0:08:14.360 topic we can discuss later. But yeah, it really wasn't 0:08:14.400 --> 0:08:17.320 a great start. And and to your point, always listened 0:08:17.320 --> 0:08:23.520 to your wife, well talking about market behavior, George, what 0:08:23.640 --> 0:08:25.960 a what a crazy week? Um, But what I think 0:08:26.080 --> 0:08:27.920 is funny, you know. I one of the columns I 0:08:28.040 --> 0:08:30.280 edit is, uh, this guy Cameron Christ he writes a 0:08:30.320 --> 0:08:35.000 column called Macroman. He actually took off for a week 0:08:35.600 --> 0:08:39.360 and he came back to work the day after the 0:08:39.400 --> 0:08:44.440 CPI numbers. You know, throw everything upside down, and you know, 0:08:44.520 --> 0:08:47.160 his column was about, like, what did I miss? You know, 0:08:47.240 --> 0:08:50.520 the the equity markets actually exactly where it was before 0:08:50.559 --> 0:08:53.600 I left. Yields are exactly where they were, you know, 0:08:53.720 --> 0:08:55.760 because you had that, you had like this five percent 0:08:55.840 --> 0:08:58.080 run up in the SMP five like in the four 0:08:58.160 --> 0:09:01.760 days before to see p I report on Tuesday. So 0:09:02.240 --> 0:09:04.880 I'm curious how big of a game changer you think 0:09:04.920 --> 0:09:11.040 it was. Um, despite this this massive autility we saw afterwards, 0:09:11.679 --> 0:09:14.800 has that much much changed And you're thinking about, you know, 0:09:14.880 --> 0:09:18.160 the Fed's reaction function for the rest of this cycle. 0:09:19.760 --> 0:09:21.680 So I I think it did my get. And here's 0:09:21.679 --> 0:09:24.199 why I usually don't like short term data points. I 0:09:24.240 --> 0:09:26.960 really like long term data points. But I will say, 0:09:27.000 --> 0:09:30.719 within the context of this week, the market was very 0:09:30.800 --> 0:09:32.600 much geared up. And I don't I don't mean just 0:09:32.679 --> 0:09:34.760 the stock market, the stock market, as you mentioned, but 0:09:34.800 --> 0:09:37.800 also the bond market, even in the preferred market with 0:09:37.840 --> 0:09:42.200 longer duration securities. People were making significant bets that the 0:09:42.240 --> 0:09:45.200 CPI number was going to come in late and and 0:09:45.440 --> 0:09:47.440 the FED was going to back off. And if you 0:09:47.480 --> 0:09:50.800 think about really, for most of this year, the market 0:09:50.800 --> 0:09:52.640 has been waiting for the FED to pivot they've been 0:09:52.679 --> 0:09:54.360 waiting for Poal to give in. And I'm just going 0:09:54.400 --> 0:09:56.000 to say this one thing, and I think I sent 0:09:56.080 --> 0:09:58.920 it to you earlier, and I keep pointing to it. 0:09:58.960 --> 0:10:01.840 There was an exchange when when Pal gave testimony to 0:10:01.880 --> 0:10:07.160 the Senate and Senator Shelby asked him directly, directly back, then, 0:10:07.720 --> 0:10:10.040 is your leadership prepared to do what it takes to 0:10:10.040 --> 0:10:13.840 get inflation under control and protect price stability? And Pal 0:10:13.880 --> 0:10:16.800 gave a very respectful nod to Vulgar and then he said, 0:10:16.800 --> 0:10:19.840 I hope history will record that the answer to your 0:10:19.920 --> 0:10:22.400 question is yes, but the key thing is shall be 0:10:22.480 --> 0:10:25.760 pressed on And he said, are you prepared to do 0:10:25.840 --> 0:10:28.400 what it takes? And Pals gave a little more of 0:10:28.440 --> 0:10:31.200 a sheepish yes, but he did say yes. And I 0:10:31.240 --> 0:10:33.360 think really that's where the line of the line in 0:10:33.400 --> 0:10:36.520 the sand was and and kind of the part where 0:10:36.559 --> 0:10:39.000 the market is kind of missing in terms of the 0:10:39.040 --> 0:10:43.240 expectation that was from March and it's already September. I mean, 0:10:43.320 --> 0:10:45.760 this has been six months now, the market wanting a 0:10:45.840 --> 0:10:47.920 pivot and they're not getting it. So I think to 0:10:47.960 --> 0:10:50.920 your point, in the short term, that really was how 0:10:50.960 --> 0:10:53.800 the market was positioned Over the last month, credit spreads 0:10:53.880 --> 0:10:57.320 rallied a little bit tightened up, and the stock market rallied, 0:10:57.320 --> 0:11:00.760 And I think that's why they really want any indication 0:11:00.920 --> 0:11:04.840 that the FED can kind of shift course. George, I 0:11:04.880 --> 0:11:07.280 feel like all of this talk of are we going 0:11:07.320 --> 0:11:10.120 to have a FED pivot are we not? Has inflation peaked. 0:11:10.360 --> 0:11:13.560 It's led to a lot of near term volatility. But 0:11:13.800 --> 0:11:16.520 one of the big themes for this year is probably 0:11:16.520 --> 0:11:19.480 going to be that bonds have done so poorly, So 0:11:19.920 --> 0:11:23.679 where are you looking for that income? Is it still 0:11:23.720 --> 0:11:28.040 in any part of bonds? Is it dividend stocks? Are 0:11:28.040 --> 0:11:31.560 you looking at cash? Yeah? And and so this is 0:11:31.600 --> 0:11:34.800 this is a great point. And and our perspective, I 0:11:34.840 --> 0:11:37.360 think is a good one, not because we are brilliant 0:11:37.400 --> 0:11:40.160 investors by any stretch, but because we have this flexible 0:11:40.160 --> 0:11:42.680 approach and we are allowed to increase cash and we 0:11:42.720 --> 0:11:46.520 are allowed to wait it out. Last year, as as 0:11:46.559 --> 0:11:50.160 the markets rallied, our cash balance grew and grew up 0:11:50.200 --> 0:11:53.160 to over and so at the end of two thousand 0:11:53.160 --> 0:11:55.960 and one we had in cash over cash. And the 0:11:56.000 --> 0:11:59.160 reason was there wasn't a lot of value there. Credit 0:11:59.200 --> 0:12:02.840 spreads to Titan stock market had gripped um and and 0:12:02.880 --> 0:12:05.520 there just wasn't a lot. So so fortunately we were 0:12:05.559 --> 0:12:08.480 able to We we believe in liquidity. The liquidity is 0:12:08.520 --> 0:12:10.960 like oxygen for us, and when we have it, you know, 0:12:10.960 --> 0:12:13.360 we feel like feel great, I feel like we can breathe. 0:12:13.559 --> 0:12:15.200 And we did well last year. I mean, we were 0:12:15.240 --> 0:12:16.920 up the most ten percent, you know, not in the 0:12:17.000 --> 0:12:19.400 nine percent range, and that was a great ranking in 0:12:19.440 --> 0:12:22.520 our in our category to last year. So it's not 0:12:22.600 --> 0:12:25.440 like we missed out on much. So when the volatility 0:12:25.520 --> 0:12:28.160 kicked in for the most part this year, we had 0:12:28.200 --> 0:12:31.360 liquidity available. And yes, to your point, around the June 0:12:31.360 --> 0:12:34.400 time frame when things really blew out from a spread standpoint, 0:12:34.800 --> 0:12:36.520 we did put some money to work and I'd like 0:12:36.559 --> 0:12:38.520 to talk you know, and I'm sure we'll talk about 0:12:38.520 --> 0:12:41.800 what we bought, uh specifically, not specific names, been in general, 0:12:42.080 --> 0:12:44.680 but just to your point that this market is very, 0:12:44.840 --> 0:12:48.120 very different. So the last eight times that the SMP 0:12:48.320 --> 0:12:51.280 was down in a calendar year, bonds finished up and 0:12:51.320 --> 0:12:53.880 so it cushioned the blow for everybody, and it was, 0:12:54.040 --> 0:12:56.959 you know, diversifier, and we haven't had that to share, 0:12:56.960 --> 0:12:59.600 as you well know. And now bonds are down a 0:12:59.679 --> 0:13:04.240 lot and and this could be the worst year in 0:13:04.320 --> 0:13:07.160 recent history for sure, maybe in many many decades that 0:13:07.160 --> 0:13:10.120 that bonds have been down this much, and that's really different. 0:13:10.160 --> 0:13:13.080 So that correlation rising between stocks and bonds and the 0:13:13.160 --> 0:13:16.480 down market was something that we didn't know that that 0:13:16.520 --> 0:13:18.840 would happen. And that's not why we went to cash. 0:13:19.240 --> 0:13:21.640 But we were glad that we had the cash. And again, 0:13:21.720 --> 0:13:24.679 bonds were so overpriced if you look back now and 0:13:24.720 --> 0:13:26.480 if you look at the yields you can get today 0:13:27.200 --> 0:13:29.760 versus just six months ago. So we're glad that we 0:13:29.800 --> 0:13:33.160 had that flexible process. Yeah, that's a pretty high cash level. 0:13:34.200 --> 0:13:44.880 Said now, George, I'm famous around here for asking like 0:13:44.920 --> 0:13:47.920 twelve part questions. So so I got bad news for you. 0:13:47.960 --> 0:13:49.320 I got one coming for you. Do you have like 0:13:49.320 --> 0:13:51.679 an assistant who can take notes notes on this question? 0:13:51.840 --> 0:13:54.000 I can do it on my own assistant. Let's go, 0:13:55.559 --> 0:13:57.840 But I I'll make it easy for you. I'm just 0:13:57.840 --> 0:14:00.520 gonna I'll just monologue a little bit like here, like 0:14:00.559 --> 0:14:02.319 a villain in a movie, and then you you tell 0:14:02.360 --> 0:14:04.559 me where I'm where I'm wrong, and and what your 0:14:04.559 --> 0:14:07.600 reaction is to what I'm gonna say. Because I'm kind 0:14:07.600 --> 0:14:10.200 of fascinated you know, as you say you you're fund 0:14:10.280 --> 0:14:13.520 you can go your strategy, UH can go as much 0:14:13.600 --> 0:14:17.200 as equities. Looking on your website, you're in a little 0:14:17.240 --> 0:14:20.000 less than thirty percent as of the end of June. 0:14:20.080 --> 0:14:24.520 So not quite bullish on equities, it would seem, um, 0:14:24.560 --> 0:14:28.280 but while fifty one point seven percent in high yield 0:14:28.360 --> 0:14:32.560 corporate credit um And to me, I think that's fascinating. 0:14:32.840 --> 0:14:35.040 We don't have a lot of credit guyes on the 0:14:35.080 --> 0:14:38.200 show as much as we should, so I want to 0:14:38.240 --> 0:14:41.680 sort of unpack what the credit markets are signaling right 0:14:41.720 --> 0:14:46.120 now because um, you know, for equity investors, they often 0:14:46.160 --> 0:14:48.440 look at the high yield market especially it's sort of 0:14:48.440 --> 0:14:51.000 that canary in the coal mine. You know, spreads started 0:14:51.000 --> 0:14:55.280 blowing out before the market top in oh seven, They started, 0:14:55.400 --> 0:14:58.640 you know, creeping higher before the dot com UH bust 0:14:58.880 --> 0:15:02.160 in two thousand. I'm looking this year and at least 0:15:02.160 --> 0:15:05.520 according our index UH, you know, the spread on high 0:15:05.560 --> 0:15:09.239 yield UH corporates right now, according in the Bloomberg indexes, 0:15:09.680 --> 0:15:11.960 I think it's like four hundred and fifty basis points. 0:15:12.000 --> 0:15:14.160 And for listeners who don't know what that means, that's 0:15:14.160 --> 0:15:19.640 basically just the the extra yield on high old bonds 0:15:19.640 --> 0:15:23.080 compared to treasuries. So so, George, to me, that doesn't 0:15:23.120 --> 0:15:27.440 seem like a canary in the coal mine screaming recession 0:15:27.560 --> 0:15:29.440 just yet. You know, the spreads are why a lot 0:15:29.480 --> 0:15:31.560 wider than where they started the year, but they were 0:15:31.680 --> 0:15:34.320 very tight to start the year. So I'm curious, just 0:15:34.800 --> 0:15:38.160 you know, a you know, what are the spreads telling 0:15:38.160 --> 0:15:40.680 you as far as like a macro signal about a 0:15:40.760 --> 0:15:44.760 recession that that investors in other asset classes, uh should 0:15:44.800 --> 0:15:47.840 should be thinking about. But also, you know, the last 0:15:47.840 --> 0:15:49.800 time spreads blew out, it was it was mostly that 0:15:49.960 --> 0:15:53.320 energy sector, uh, that was the driver of that. So 0:15:53.440 --> 0:15:55.840 is that is that signal from the credit markets you 0:15:55.840 --> 0:15:59.400 think broken? Since energy companies um are a big component 0:15:59.400 --> 0:16:04.080 of high yield what they're they're doing really well these days. Wow. 0:16:04.240 --> 0:16:08.520 Excellent question. Many points, and they're all court discussing for sure. 0:16:08.840 --> 0:16:10.800 So so number one, real quick, I think it is 0:16:11.200 --> 0:16:14.400 it's a little misleading when we look at our high 0:16:14.480 --> 0:16:17.720 yield exposure in our strategy. And and the only reason 0:16:17.720 --> 0:16:20.360 why I'll say that is that we generally tend to 0:16:20.400 --> 0:16:23.280 focus on double being single B security, so we really 0:16:23.360 --> 0:16:26.000 don't delve too far down in the triple seas and 0:16:26.240 --> 0:16:29.360 that you know higher of high yield. The second thing 0:16:29.440 --> 0:16:31.880 is our duration is a lot shorter than many of 0:16:31.880 --> 0:16:35.640 the benchmarks. And then the third there is a little 0:16:35.680 --> 0:16:37.680 bit of a cheat code in the in the bond market, 0:16:37.800 --> 0:16:40.480 and and and a great way to add value, especially 0:16:40.520 --> 0:16:43.520 in these types of markets, and so checodes where I 0:16:43.520 --> 0:16:45.120 have a fourteen year old son, so I might throw 0:16:45.120 --> 0:16:48.280 out some like chicoads words or made like they have 0:16:48.320 --> 0:16:55.040 all this yeah yeah, yeah exactly and so so so 0:16:55.080 --> 0:16:57.560 the cheat code in the bond market for me and 0:16:57.640 --> 0:17:02.680 for our strategy is, look, you can find companies, so 0:17:02.880 --> 0:17:05.520 so working you limit risk or working you lower risk 0:17:05.520 --> 0:17:08.280 in a high yield security, Well, you can find certain 0:17:08.400 --> 0:17:11.840 smaller securities because we're we're a small fund at the moment, 0:17:12.440 --> 0:17:16.040 and we can buy these smaller securities, um smaller issues, 0:17:16.480 --> 0:17:18.960 and you can find companies that more cash than debt 0:17:18.960 --> 0:17:21.800 on the balance sheet. That is the ch code. So 0:17:22.119 --> 0:17:24.040 when I go to bed at night, I'm not worried 0:17:24.080 --> 0:17:27.400 about the great majority of the high yield quote unquote 0:17:27.440 --> 0:17:31.160 bonds and our portfolio going bankrupt. I'm not really taking 0:17:31.640 --> 0:17:35.280 a huge bet. I'm getting paid for that extra credit spread. 0:17:35.280 --> 0:17:37.639 But I'm not making a huge bet like the economy 0:17:37.680 --> 0:17:40.160 has to do well. I literally can go to sleep 0:17:40.200 --> 0:17:42.640 at night and I know, for example, that the great 0:17:42.640 --> 0:17:45.000 majority of our bonds are going to get paid off 0:17:45.040 --> 0:17:47.480 because because the cash is already on the balance sheet, 0:17:47.800 --> 0:17:50.520 they're managed by companies that are free cash flow positive 0:17:50.880 --> 0:17:54.040 and manage my management teams that have a great track 0:17:54.080 --> 0:17:58.439 record of capital allocation. And so that's the ultimate margin 0:17:58.480 --> 0:18:00.800 of safety for us. And the good thing there is 0:18:00.840 --> 0:18:02.720 that you know, as Ben Graham said, the purpose of 0:18:02.760 --> 0:18:06.160 the margin of safety is to render the forecast unnecessary, 0:18:06.280 --> 0:18:09.280 and so I don't have to project inflation rates or 0:18:09.320 --> 0:18:11.359 where the where interest rates are going, or what the 0:18:11.400 --> 0:18:14.119 economy is going to do. If you focus on that 0:18:14.160 --> 0:18:17.119 company being able to pay off that piece of debt again, 0:18:17.160 --> 0:18:19.399 you have you eliminate a lot of other concerns. So 0:18:19.480 --> 0:18:21.080 that's one of the cheat codes that we use and 0:18:21.080 --> 0:18:23.040 one of the ways that we've had value over the 0:18:23.040 --> 0:18:25.879 past twenty years of managing this type of strategy. To 0:18:25.920 --> 0:18:28.840 your point, yes, credit credit spreads are absolutely a signal. 0:18:29.080 --> 0:18:31.520 It's something we should all watch out for. I'll give 0:18:31.520 --> 0:18:34.879 you two schools of thought here. Number one, credit spreads 0:18:34.960 --> 0:18:39.199 or wider they should be. Uh. The economic situation, broadly 0:18:39.240 --> 0:18:42.000 speaking from an earning standpoint is a lot more uncertain 0:18:42.080 --> 0:18:45.359 today than it's been in a long time, and so 0:18:45.480 --> 0:18:49.119 credit spreads should be wider now. The flip side of 0:18:49.160 --> 0:18:51.679 that argument is that interest rates were so low for 0:18:51.720 --> 0:18:54.800 so long that many or most companies were able to 0:18:54.840 --> 0:18:58.960 refi it really really low rates, and they extended their debt. 0:18:59.640 --> 0:19:02.440 That balances out. That's good in the near term, so 0:19:02.480 --> 0:19:04.639 I wouldn't expect to see default rates kick up a 0:19:04.640 --> 0:19:08.439 lot in the immediate near term. That said, there are 0:19:08.440 --> 0:19:10.800 a lot of zombie companies, companies that cannot cover their 0:19:10.840 --> 0:19:14.600 interest expense through operating earnings or EVA don that's that 0:19:14.720 --> 0:19:17.919 to me again means that you really need to be 0:19:17.960 --> 0:19:20.080 a good like I would never buy high yield broadly. 0:19:20.119 --> 0:19:23.280 I wouldn't look I'm biased, right, I'm an active manager. 0:19:23.440 --> 0:19:25.600 I wouldn't buy a high yield e t F for 0:19:25.640 --> 0:19:28.760 the sole purpose of I don't trust all the companies 0:19:28.800 --> 0:19:30.679 that are in the e t F. I trust this 0:19:30.760 --> 0:19:33.720 company instead of that company. So that's my view, and 0:19:33.760 --> 0:19:35.919 I feel like we can ferret out and find value 0:19:36.000 --> 0:19:39.280 in that context. Um, but that's just two schools of thought, yes, 0:19:39.280 --> 0:19:42.639 I still think credit spreads are very important indicator. Energy 0:19:42.680 --> 0:19:44.520 is a big part in near point going back to 0:19:44.640 --> 0:19:47.399 fourteen fifteen sixteen, they blew up a lot of the 0:19:47.520 --> 0:19:51.760 energy credits and went bankrupt and and and that's honestly 0:19:51.800 --> 0:19:55.120 been one of the reasons why why that sector has 0:19:55.200 --> 0:19:58.560 kind of stayed so cheap, given how well they've performed 0:19:59.119 --> 0:20:02.600 um this year. So those were just my thoughts on 0:20:02.640 --> 0:20:04.600 those topics. So it's give maybe to dig in further. 0:20:05.040 --> 0:20:07.359 Let me know I I did. I also want to 0:20:07.400 --> 0:20:09.840 ask you, you know when and I know you said, 0:20:09.880 --> 0:20:12.119 you know it's you're not gonna go out on a 0:20:12.200 --> 0:20:15.160 limb and try to predict inflation or pick the path 0:20:15.240 --> 0:20:18.280 of interest rates. But fingers crossed. I think we all 0:20:18.359 --> 0:20:20.919 have to kind of hope that maybe the peaks in 0:20:21.040 --> 0:20:23.320 for inflation at least and if if you're looking out 0:20:23.320 --> 0:20:28.360 over five ten years, you know, uh again fingers crossed. 0:20:28.359 --> 0:20:31.440 But boy, you gotta assume inflation, inflation is gonna come down, 0:20:32.040 --> 0:20:35.680 interest rates are gonna come down with it. So does 0:20:36.080 --> 0:20:40.280 this type of moment in time make you, um, sort 0:20:40.320 --> 0:20:42.919 of bullish on on longer maturities, you know, especially with 0:20:42.960 --> 0:20:45.359 new issues. If if you can lock in a really 0:20:45.400 --> 0:20:49.800 attractive rate for you know, twelve fifteen years. You know, 0:20:50.000 --> 0:20:52.400 does it change your thinking on maturities at all when 0:20:52.440 --> 0:20:56.040 when yields are this high, it's it certainly should so. 0:20:56.040 --> 0:20:58.040