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Speaker 1: Hello, and welcome to the Credit Edge, a weekly markets podcast.

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Speaker 1: My name is James Crombie. I'm a senior editor at Bloomberg.

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Speaker 2: And I am reacha backman chief structured finance tragist at

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Speaker 2: Bloemberg Intelligence. This week we are pleased to welcome Paul Noise,

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Speaker 2: senior put for the manager at American Century Investments.

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Speaker 3: How are you poor, I'm great. I'm super glad to

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Speaker 3: be here. I'll tell you a short story before we start.

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Speaker 3: I always share my walk with my dog with you

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Speaker 3: on Saturdays on the Select podcast that you put out

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Speaker 3: that I like, so I'm really excited to be here, Paul.

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Speaker 2: It's the securities markets team at American Century, and he

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Speaker 2: is also a member of the firm's Globe of Fixed

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Speaker 2: Income Investment Committee. He was previously head of STARCTI Products

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Speaker 2: Accoonting Asset Management and has worked in indie industry since

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Speaker 2: nineteen ninety two.

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Speaker 1: So yeah, great to have you on the show.

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Speaker 3: Paul.

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Speaker 1: Really appreciate your listening to the show as well, So

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Speaker 1: hopefully you're giving us a review and telling your friends

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Speaker 1: like I always say, But to kick it off, I

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Speaker 1: will say that credit markets overall are looking incredibly bullish

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Speaker 1: despite all the bad news out there, there's a wall

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Speaker 1: of cash. Investors only seem to care about locking in

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Speaker 1: the yield, which is relatively high compared to recent history,

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Speaker 1: spreads that are very thin, and there's a belief that

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Speaker 1: as long as the US economy doesn't tip into a recession,

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Speaker 1: everything in credit will be fine. But there are some

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Speaker 1: signs of pressure out there notes will be in private credit,

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Speaker 1: which is what I want to start by asking you about, Paul,

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Speaker 1: where is the stress as far as you can see,

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Speaker 1: and you know what signs are you saying that maybe

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Speaker 1: it's not also rosy out there?

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Speaker 3: I think for us, as we looked across the spectrum

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Speaker 3: of say, private credit, there's many different types of private

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Speaker 3: credit that we look at. What we're most focused on

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Speaker 3: is where there's overlap with colos. So we're not directly

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Speaker 3: involved in private credit, but we view collateralized loan obligations

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Speaker 3: colos as our window into the private credit world, and

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Speaker 3: what we're seeing there is what concerns us. For us,

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Speaker 3: it was really about four or five months ago when

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Speaker 3: we started seeing some real degradation and loan values in

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Speaker 3: colos that manifested itself in different metrics in CLOS and

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Speaker 3: the overlap for us, and I'm sure we'll get into

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Speaker 3: this is the software exposure that really permeates private credit.

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Speaker 3: And when we're talking about private credit, I think we

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Speaker 3: need to be careful and say we're talking about what

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Speaker 3: I would call true private credit, not asset based finance,

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Speaker 3: although that's a whole nother discussion where we could do

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Speaker 3: a podcast. I've heard some really fantastical numbers about the

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Speaker 3: origination that's going to go on there. I find that

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Speaker 3: kind of funny. But in terms of private credit, it's

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Speaker 3: really the SaaS or software component of private credit and

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Speaker 3: the overlap with CLOS that we find concerning.

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Speaker 1: So when you say four or five months ago you

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Speaker 1: saw degradation in the loan valleies, what are you talking about.

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Speaker 1: Is it a big drop from let's SAE hundred to

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Speaker 1: eighty cents on the dollar. What's the big move?

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Speaker 3: Right? So what we saw is in COLO loan values.

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Speaker 3: We saw loans backed by software firms dropping from say

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Speaker 3: ninety seven to ninety over those few months. And so

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Speaker 3: it didn't happen all at once, obviously, but it continued

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Speaker 3: to really move lower, and that in and of itself

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Speaker 3: wouldn't be a problem. I would say if we thought

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Speaker 3: that there was a near term recovery, I think the

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Speaker 3: real issue here is that AI is obviously here to

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Speaker 3: stay claude and some of these other issues or sorry,

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Speaker 3: I would say systems that are coming online in terms

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Speaker 3: of AI and agents I think are problematic. And we're

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Speaker 3: starting at a place where loan values are already at

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Speaker 3: ninety cents for software. Add on top of that, which

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Speaker 3: you know, I did the evolution of private credit. It's

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Speaker 3: quite fascinating to me where about four hundred basis points

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Speaker 3: above where all these loans were originated in terms of

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Speaker 3: rates and financing costs.

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Speaker 1: So the loans have gone down and they continue to

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Speaker 1: go down. Do they go down to zero?

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Speaker 3: Oh gosh, I hope not. I don't think they go

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Speaker 3: down to zero, But I think either way it's problematic

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Speaker 3: for refinance. And so our our take is really that

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Speaker 3: you've heard some people. I've heard some people on your podcast,

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Speaker 3: you know, that are really talking about it being systemic.

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Speaker 3: Others say it's not. I think for us, our take

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Speaker 3: is that it's going to be rolling blackouts. Is kind

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Speaker 3: of the term that we use. One thing that's on

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Speaker 3: my mind that's related to all of this is that

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Speaker 3: when you tell someone I either BDC's or different private

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Speaker 3: credit vehicles that are been sold to retail clients, when

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Speaker 3: you tell them they can't get their money out, I

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Speaker 3: think that's only going to make them fight a lot

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Speaker 3: harder to get their money out of those vehicles. And

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Speaker 3: so my take along these lines is that the good

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Speaker 3: loans that are in these private vehicles have already been

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Speaker 3: sold to meet redemptions. So what's left is what I

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Speaker 3: would say, the not so great loans, and if those

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Speaker 3: get marked to market or have to be sold, I

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Speaker 3: think that turns into a whole other issue in and

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Speaker 3: of itself. And so I think that many of these

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Speaker 3: vehicles are hoping that redemptions don't come. And as my

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Speaker 3: one of my first boss that Fanny May told me,

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Speaker 3: hope is a horrible hedge. And so I think that

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Speaker 3: in our view, that the redemptions only exacerbate and get bigger,

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Speaker 3: bigger and bigger as the year goes on, which, on

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Speaker 3: another tangent, is exactly the same time that we're coming

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Speaker 3: up on the refinancing window for many of these private

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Speaker 3: credit software loans, but.

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Speaker 1: The redemptions are capped right at five percent, which is

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Speaker 1: kind of the built in defense mechanism of these vehicles.

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Speaker 1: So you know, what they would tell us is that

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Speaker 1: they're actually shielded, that they can manage these five percent

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Speaker 1: every quarter for quite a long time without real stress.

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Speaker 4: So why do you think that's a bigger problem.

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Speaker 3: I think that is a public or relations problem. I

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Speaker 3: agree that the vehicles themselves would be protecting the issuers

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Speaker 3: themselves and the vehicles themselves. But I think as we

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Speaker 3: look forward and they continue to talk on your podcast

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Speaker 3: and others, that they're going to raise, you know, hundreds

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Speaker 3: of billions of dollars, I don't know where that money's

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Speaker 3: going to come from, and so I think that the

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Speaker 3: redemptions will continue in mass until they can get their

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Speaker 3: money out, which you're right, will be five percent at

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Speaker 3: a time. I also think they've got a public relations

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Speaker 3: problem in terms of trying to raise the next vehicle,

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Speaker 3: which then leads me to the institutional side. So I

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Speaker 3: think what we haven't addressed is returns are not going

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Speaker 3: to be as good as promised, nowhere near as good

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Speaker 3: as promised, and so one of the things I'm going

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Speaker 3: off on a crazy tangent here, but one of the

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Speaker 3: things that we worry about is that that worry is

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Speaker 3: probably the wrong word, but talk about is that returns

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Speaker 3: are pretty lackluster. I mean, five years ago, private credit

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Speaker 3: was a home run. ABF was a home run. When

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Speaker 3: you look at it today and compare it to say,

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Speaker 3: the last three years, or compare it to public markets

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Speaker 3: and either asset backed securities securitize, which is my domain,

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Speaker 3: or even other other areas of the credit markets, they

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Speaker 3: don't look that attractive. And so my question to any

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Speaker 3: investor would be, okay, So for an investment grade ABF

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Speaker 3: vehicle or for some private credit vehicle, let's say in

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Speaker 3: the investment grade side, you're going to get eight nine

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Speaker 3: percent after incentives, after fees, you're right back to probably

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Speaker 3: seven and a half percent at least. That's what I've

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Speaker 3: been told by many consultants and prospects and clients. Why

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Speaker 3: do you want to be locked up gate ramp period

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Speaker 3: when you could just go to the public markets and

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Speaker 3: get that exact same return in different forms.

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Speaker 1: Take it back to the BBC issue. They are under pressure,

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Speaker 1: they have loans that are coming up for maturity. They're

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Speaker 1: not going to be able to refinance the What do

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Speaker 1: they do those loans.

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Speaker 3: That's the interesting part of it. I think that some

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Speaker 3: will default, some will do the extend and pretend. And so,

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Speaker 3: as you mentioned at the beginning, I'm a securitized guy,

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Speaker 3: and I draw my experience in terms of both the

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Speaker 3: subprime crisis as well as CNBS back in twenty fifteen,

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Speaker 3: as well as the most recent CNBS issues. And so

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Speaker 3: what I think happens is extend and pretend to some degree. Right, So,

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Speaker 3: I believe in PC world they have the LME option,

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Speaker 3: which is, you know, maturity extensions and other things that

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Speaker 3: they can do. So I liken it to CMBs. You

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Speaker 3: might put a little equity in the deal, you might

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Speaker 3: extend the maturity, you might reduce interest rates here and there,

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Speaker 3: anything to keep from having to refinance. But here's the

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Speaker 3: kicker for me. Any of those things I believe will

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Speaker 3: harm returns. Right, so investors are already probably not happy

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Speaker 3: that they're not getting the returns that they want. Then

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Speaker 3: number two is the downgrade issue. Where I'm really focused

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Speaker 3: is on the downgrade. So I can't I'm not smart

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Speaker 3: enough to predict how many of these loans default. And

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Speaker 3: I do think another side note is if these loans

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Speaker 3: do default, there's no building, there's no nothing, And if

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Speaker 3: the intellectual property isn't there, then what are these loans

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Speaker 3: really worth. I think they're probably worth close to zero,

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Speaker 3: but I don't know that we get there in the

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Speaker 3: next year or two. So my issue is that if

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Speaker 3: they have to refinance, and the refinancing wave is starting

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Speaker 3: soon with the eighteen months you know term in terms

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Speaker 3: of getting your financing together, I think a lot of

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Speaker 3: these loans get downgraded on the software side, and if

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Speaker 3: that happens, that definitely has ramifications for clos It has

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Speaker 3: ramifications from mark to market, and that many of these

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Speaker 3: mark to model have to be changed. So if you're

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Speaker 3: a private credit company and you're using mark to model

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Speaker 3: to mark your loan at par when the same are

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Speaker 3: similar loan and COLO space is trading at seventy, at

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Speaker 3: some point you're going to have to reduce that mark

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Speaker 3: I think, right.

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Speaker 1: But on the BD side was saying, you know that

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Speaker 1: there's this there's this big chunk loans which is which

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Speaker 1: is software. Essentially it's about let's say thirty percent for

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Speaker 1: the sake of argument, but they are diversified. They do

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Speaker 1: have a whole bunch of other stuff. Middle market loans.

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Speaker 1: It's pretty straightforward, like you know, pretty boring kind of lending, right,

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Speaker 1: So that should hold up.

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Speaker 3: Is it?

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Speaker 1: Is it, you know, big enough to take one of

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Speaker 1: these firms down?

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Speaker 3: You think I don't know honestly enough to make that

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Speaker 3: determination if it could bring a firm down. I do

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Speaker 3: think what's interesting to me, drawing on the subprime crisis parallels,

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Speaker 3: is that many firms during that time who were really

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Speaker 3: strong could afford to mark their loans to market. There's

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Speaker 3: a very interesting way to go about it in that

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Speaker 3: they probably put their business competitors out of business because

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Speaker 3: they could afford to mark these loans to market. And

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Speaker 3: so I think to your question, I think some of

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Speaker 3: the weaker players are in trouble. I think they might

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Speaker 3: have more than thirty percent software and those for folks

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Speaker 3: could be in trouble. But I think the larger players

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Speaker 3: certainly are not in trouble. They're very well insulated, they

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Speaker 3: have tons of capital. I think it'll be very, very painful, though.

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Speaker 2: I wonder way it makes makes sense to sort of

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Speaker 2: think where these problems could crop up at a very

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Speaker 2: high level, because not many of our readers or listeners

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Speaker 2: would be COLO experts or business, government company experts, So

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Speaker 2: maybe we should think about Okay, so we have broadly

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Speaker 2: three categories of clos that matter here, I guess we'll

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Speaker 2: see we have the European Broader Syndicate loan clos, we

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Speaker 2: have the US broadly syndicate loan clos, and we have

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Speaker 2: the US mid market clos. And my guess is the

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Speaker 2: exposure to the scenario the describing is not going to

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Speaker 2: be the same across these three categories. And I guess

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Speaker 2: we should also say up front that because we did

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Speaker 2: talk about this is the wemine companies before and about

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Speaker 2: the redemption risk they're facing, maybe we should say, well,

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Speaker 2: they are the private business the weemic companies that do

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Speaker 2: offer redemptions, and that the public ones that don't, so

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Speaker 2: that the ones that the public ones wouldn't face. And

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Speaker 2: it's the same for co clos don't offer redemption, so

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Speaker 2: that the redemption scenario is something that would apply to

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Speaker 2: private bias it's diving companies, but not the clos. But

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Speaker 2: coming back to the exposure, the underlying loan exposure to

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Speaker 2: SaaS loans, how would that compare between the up and colos,

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Speaker 2: the USBSL clos and the US mid market CROs.

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Speaker 3: I would say the most immune market is European colos.

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Speaker 3: Number one. That probably looks the best. Number two is

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Speaker 3: in terms of I can speak more to the US

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Speaker 3: CLO market, Let's say it's somewhere between ten to twelve

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Speaker 3: percent of an average clo, and that can you know,

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Speaker 3: definitely differ by manager. And then finally, the middle market

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Speaker 3: clos are going to be much more focused on SaaS

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Speaker 3: and software loans. Yeah, and there's also I think you know,

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Speaker 3: there's a whole other aspect that we didn't talk about.

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Speaker 3: It's a little bit wonkish in my market, but something

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Speaker 3: called recurring revenue which is essentially SAS based loans recurring

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Speaker 3: revenue ABS, which is a very very small but niche

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Speaker 3: market that's really made up of all SaaS loans.

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Speaker 2: Right right. We also have this situation where in BSL clos,

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Speaker 2: including in the US, the loans are mostly third party originated,

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Speaker 2: versus with the mid market clos, the loans are mostly

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Speaker 2: first party originated. So you would think that because a

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Speaker 2: lot of the originators are private credit related, private dec related,

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Speaker 2: and they put their own loans into their own mid

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Speaker 2: market solos, that you might see more exposure to the

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Speaker 2: sort of smaller SaaS companies that are financed via recurring

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Speaker 2: loan or recurring loans. Loans under recurring loan covenants are

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Speaker 2: opposed to be dark covenants. And so I guess that

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Speaker 2: goes back to James question as well, So that relates

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Speaker 2: to size. So presumably the SAS companies in the mid

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Speaker 2: market cillos, smaller recurrent loan underwritten, maybe more growth dependent

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Speaker 2: in terms of future viability versus the SaaS providers in

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Speaker 2: the USBSL colos that are larger, perhaps more established, longer history,

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Speaker 2: have more overlocked in customer base, and are perhaps more

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Speaker 2: ibitar underwritten, and for that reason might be quite a

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Speaker 2: bit less exposed than the ones in the mid market clos.

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Speaker 3: I would agree with that. I think in this case,

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Speaker 3: size of your balance sheet matters. I think I would

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Speaker 3: also mention the competition when these loans were originated was

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Speaker 3: quite fierce. I mean, we basically went from you know,

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Speaker 3: I built the timeline myself, but we went from basically,

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Speaker 3: you know, one hundred billion of private credit in two

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Speaker 3: thousand and seven to I don't know, two and a

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Speaker 3: half plus trillion today, and most of that growth took

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Speaker 3: place at zero percent interest rates. So we're talking from

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Speaker 3: basically twenty twenty twenty twenty one timeframe was the biggest

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Speaker 3: explosion of growth. So why am I mentioning that. I'm

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Speaker 3: mentioning that because a lot of these firms were out

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Speaker 3: originating vehicles like BBC's or other private credit and the

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Speaker 3: competition amongst all these big firms and small was tremendous.

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Speaker 3: And so I think many firms that otherwise might not

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Speaker 3: have been underwritten or shouldn't have been underwritten, underwritten because

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Speaker 3: software was the new, amazing technology that was going to

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Speaker 3: revolutionize the world until it didn't. And so again, I

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Speaker 3: am a securitized person, and I grew up in the

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Speaker 3: subprime crisis. And what's interesting to me is the subprime

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Speaker 3: crisis was very similar. I'm not saying this is a

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Speaker 3: subprime crisis, let's get that straight. But what I am

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Speaker 3: saying is that subprime was a small Knitz market in

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Speaker 3: two thousand and then, just like what happened here, regulations changed,

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Speaker 3: and what we saw is an explosion of origination in

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Speaker 3: subprime mortgages. And basically what we saw is that they

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Speaker 3: ran out of folks to originate in subprime. So what

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Speaker 3: did you get? You've got no fight, go liar loans,

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Speaker 3: you've got teaser rates. All these things that I think

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Speaker 3: are not the same, but it certainly rhymes with the

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Speaker 3: ramp up we saw in private credit and that origination standards,

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Speaker 3: I would say, audit standards. All those things got rushed

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Speaker 3: and in order to fulfill the vehicles that were being

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Speaker 3: originated to both qualified investors in retail.

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Speaker 4: So essentially that risk was mispriced.

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Speaker 3: Yeah, I think, you know, it's hard to tell back then, right,

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Speaker 3: So I don't want to throw looking at the beautiful

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Speaker 3: Bloomberg studios here, and there's a lot of glass, so

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Speaker 3: I don't want to throw rocks at glass. I know

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Speaker 3: I'm not perfect, but at the time, I'm sure these

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Speaker 3: originations looked great, excited to do the loans, and then

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Speaker 3: next thing you know, interest rates are four hundred basis

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Speaker 3: points higher, and next thing you know, Claude is releasing

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Speaker 3: these amazing applications that are going to basically displace all

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Speaker 3: the software. Not all of it, that's a exaggeration, but

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Speaker 3: a lot of it.

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Speaker 2: So I think if we if we think about where

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Speaker 2: DA attaches and maybe at the user level more replacement

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Speaker 2: risk and the application level more competition risk. But I'm

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Speaker 2: gonna cut you. How do you see that? Paul? That's

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Speaker 2: how I think about it.

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Speaker 3: Actually, I think that's a really excellent smart point. What

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Speaker 3: I draw from that is a couple of things, and

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Speaker 3: I use this with my team and I read about it.

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Speaker 3: I've also heard about it. But one of the things

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Speaker 3: that I think is interesting that you mentioned is, let's

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Speaker 3: pretend that we're the CEO of a firm, and let's

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Speaker 3: pretend we're using exactly what you described, and let's pretend

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Speaker 3: that we're using it for some sort of risk management.

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Speaker 3: Let's just put a name and a face on this thing.

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Speaker 3: And then let's say that our SAS based risk management

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Speaker 3: provider comes into the office they always do, and they

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Speaker 3: want to renew the contract. You know that as the CEO,

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Speaker 3: that we've got this amazing technology we're building in house

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Speaker 3: with the new AI tools. So here's the question that

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Speaker 3: scared me about colos, and this is why we reduced

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Speaker 3: are other than triple aclos and why we think this

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Speaker 3: is problematic? Are you going to be willing to renew

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Speaker 3: that contract for five years knowing what you know right

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Speaker 3: now and what you just described. And then number two,

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Speaker 3: there's always an ask for more. So when you're renewing

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Speaker 3: that contract, they want you to pay another thirty percent,

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Speaker 3: or sorry, thirty percent, they want you to pay another

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Speaker 3: fifteen ten percent. So let me ask you, you're the

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Speaker 3: CEO of the firm, are you willing to renew for

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Speaker 3: five years? Are you really willing to renew for fifteen

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Speaker 3: percent on this recurring revenue? They're also seat based license,

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Speaker 3: So now you're telling me that you're going to have

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Speaker 3: less people operating in these seas. And so what I

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Speaker 3: came to, and maybe you'll disagree, what I came to

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Speaker 3: is that revenue is going to be a big problem

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Speaker 3: for these SaaS based firms because competition is increasing, AI

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Speaker 3: is increasing, and then you have to really question the

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Speaker 3: value of the loan based on declining revenue. And oh,

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Speaker 3: by the way, financing costs are up five hundred and

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Speaker 3: six hundred basis points and a lot of these loans

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Speaker 3: are trading in the nineties. So who's going to refinance

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Speaker 3: this loan on a declining revenue probably a declining rating.

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Speaker 3: So I think the issue here is that it's a

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Speaker 3: slow burn, but there's no positive outcome or sort of

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Speaker 3: rescue that's near term that's going to save these SaaS

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Speaker 3: based firms. And oh, by the way, they have to

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Speaker 3: refinance in the next twenty four months or thirty six months.

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Speaker 3: So do you think AI is going to stop producing

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Speaker 3: gains in the next thirty six months. That's kind of

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Speaker 3: like my thought process that I went over with my team,

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Speaker 3: And to be honest with you, I could be wrong.

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Speaker 3: I am not a technology expert, and it scares me

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Speaker 3: that I don't know and I don't have an edge.

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Speaker 3: But what also bothers me is in colos and other

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Speaker 3: adjacent markets that spreads are really tight. And if you're

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Speaker 3: talking if we're talking about clos, triple b's and double

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Speaker 3: b's are where all this will be felt. So we

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Speaker 3: think the credit curve should be much steeper. Triple a's

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Speaker 3: are fine, but I'm really worried about what happens to

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Speaker 3: sort of these more subordinate tranches in these abs and clos.

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Speaker 2: Assuming there are the losses as you postulate them INSA sloans,

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Speaker 2: then the question is, so what is the exposure actually

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Speaker 2: in the collateral poolsey I posted a little bit earlier

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Speaker 2: a bit and then of what are the credit enhancement

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Speaker 2: in the CILO structure, and then of course, also over

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Speaker 2: what kind of time frame these losses will materialize, because

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Speaker 2: the most slow materialize, the lower the resulting of the

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Speaker 2: attached loss rate per year, which has a big impact

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Speaker 2: from a credit perspective. I'm not quite sure so of

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Speaker 2: what numbers use of working with. My sense has always

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Speaker 2: been that in mid US mid market cilos the exposure

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Speaker 2: to SaaS loans within software is very high. I don't

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Speaker 2: have hard numbers because our databasess just doesn't go to

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Speaker 2: that level of granularity. We can see the software exposure

385
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Speaker 2: where we can see the exposure to SaaS providers specifically,

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Speaker 2: So my sense is maybe three quarters of the software

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Speaker 2: loans in US market silos are to SaaS providers, so

388
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Speaker 2: it's very high. And then the exposure to soft software

389
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Speaker 2: in USB market sols maybe twenty percent or something of

390
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Speaker 2: that sort and average, so you end up with an

391
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Speaker 2: exposure of let's say fifteen percent to SaaS loans in

392
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Speaker 2: this type of col typically, And then you have to

393
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Speaker 2: start to think about, so, what are the laws severity

394
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Speaker 2: is going to be over what time frame a loan's

395
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Speaker 2: going to default? Actually? What is the default rate, what's

396
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Speaker 2: the lot of severity, what's the time frame, and then

397
00:25:26,840 --> 00:25:29,480
Speaker 2: with that you can sort of start to build up

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Speaker 2: a picture of what the implied loss rate would be

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Speaker 2: per year for these types of cols. Is that sort

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Speaker 2: of the sort of the process that you're going through

401
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Speaker 2: when you're assessing COLO risk.

402
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Speaker 3: That's exactly right. I would say, we have to throw

403
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Speaker 3: in one more thing. That's frankly quite easy from my perspective,

404
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Speaker 3: and that is why did we start really looking as

405
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Speaker 3: closely at these markets, And that was because spreads are

406
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Speaker 3: at all time tight. So for me, it's very interesting

407
00:26:04,480 --> 00:26:08,720
Speaker 3: that I've said this to my team. We are at

408
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Speaker 3: what I would call max uncertainty in terms of markets.

409
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Speaker 3: We've got AI, we've got the Gulf War, we've got

410
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Speaker 3: all these crazy things going on, warsh at the Fed,

411
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Speaker 3: Trump in the office, Yet spreads are at all time tights.

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Speaker 3: So we call it max uncertainty with max complacency. And

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Speaker 3: so that makes my job a lot easier in terms

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Speaker 3: of sussing out what is the right play here. And

415
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Speaker 3: so if we think that there's a lot of uncertainty

416
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Speaker 3: in the market, COLO triple b's were at all time tights,

417
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Speaker 3: why do we own them? And so part of our

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Speaker 3: calculus is that we don't know how AI is going

419
00:26:49,920 --> 00:26:52,359
Speaker 3: to play out. We don't know how these SaaS loans

420
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Speaker 3: are going to play out. But if we do some

421
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Speaker 3: simple math, and I don't want to get too wonky

422
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Speaker 3: on the podcast here, but there's something called market value

423
00:27:00,680 --> 00:27:05,119
Speaker 3: over collateralization and that has a very direct impact on

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Speaker 3: spreads and we have watched that decline over the last

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Speaker 3: six months and continue to decline, and that has real

426
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Speaker 3: ramifications for spreads. So our first action is to sell

427
00:27:19,840 --> 00:27:23,639
Speaker 3: triple b's because they're tight. We are to wait and

428
00:27:23,720 --> 00:27:27,600
Speaker 3: to see until spreads widen and then potentially move back

429
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Speaker 3: into the market at a more opportune time. So we're

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Speaker 3: not doing the exact math you're talking about, of course

431
00:27:33,600 --> 00:27:36,920
Speaker 3: we do, but we're going to wait for that opportunity

432
00:27:37,040 --> 00:27:40,120
Speaker 3: to move back into the market and then do all

433
00:27:40,160 --> 00:27:43,119
Speaker 3: that math that you're talking about. We definitely think double

434
00:27:43,160 --> 00:27:49,720
Speaker 3: b's are potentially rich. We think triple b's are very rich,

435
00:27:51,040 --> 00:27:55,280
Speaker 3: and so as we look at the landscape, we want

436
00:27:55,280 --> 00:27:59,200
Speaker 3: to be mindful that, you know, we need spreads to widen,

437
00:27:59,600 --> 00:28:04,480
Speaker 3: and we need to see some sort of resolution to

438
00:28:04,600 --> 00:28:10,119
Speaker 3: the SaaS and AI loan based pricing. I need prices

439
00:28:10,480 --> 00:28:12,320
Speaker 3: and these loans need to move lower.

440
00:28:12,920 --> 00:28:14,520
Speaker 1: So it's not a collapse in any way. It's more

441
00:28:14,560 --> 00:28:15,720
Speaker 1: just a repricing of risk.

442
00:28:17,200 --> 00:28:20,640
Speaker 3: I don't see a collapse, but I do see there

443
00:28:20,680 --> 00:28:24,359
Speaker 3: needs to be a significant repricing of risk. Again. I

444
00:28:24,400 --> 00:28:29,600
Speaker 3: go back to my experience with both subprime and CMBs

445
00:28:30,080 --> 00:28:32,959
Speaker 3: in terms of twenty fifteen, and then more locally with

446
00:28:33,240 --> 00:28:37,960
Speaker 3: commercial mortgages here over the last five years, and there's

447
00:28:38,080 --> 00:28:41,000
Speaker 3: a lot of analogies, and you know, we need spreads

448
00:28:41,000 --> 00:28:44,960
Speaker 3: to widen materially, and I think in cnbs the analogy

449
00:28:45,000 --> 00:28:49,920
Speaker 3: for me is triple bs got out to you know,

450
00:28:50,080 --> 00:28:54,120
Speaker 3: seven eight hundred types of spreads, yields of load to

451
00:28:54,200 --> 00:28:59,080
Speaker 3: mid teens deep dollar discount prices. That's when it's interesting.

452
00:29:00,040 --> 00:29:02,920
Speaker 3: But it's not very interesting right now when you don't

453
00:29:02,960 --> 00:29:06,360
Speaker 3: have a yield that looks very attractive versus competing assets,

454
00:29:06,360 --> 00:29:09,840
Speaker 3: and you are complete unknown in terms of what's going

455
00:29:09,920 --> 00:29:10,520
Speaker 3: on in AI.

456
00:29:12,080 --> 00:29:15,040
Speaker 1: You're right that spreads are tight, not just in structure credit,

457
00:29:15,080 --> 00:29:17,080
Speaker 1: but across the board. You know, on ig credit we've

458
00:29:17,080 --> 00:29:19,680
Speaker 1: got the lowest spreads in thirty years.

459
00:29:19,920 --> 00:29:21,520
Speaker 4: High yield is also very tight.

460
00:29:21,960 --> 00:29:23,720
Speaker 1: That for me, is just a sign of way too

461
00:29:23,800 --> 00:29:26,240
Speaker 1: much demand, way too much cash pushing on not very

462
00:29:26,280 --> 00:29:28,480
Speaker 1: much net new supply of the decks. We haven't seen

463
00:29:28,520 --> 00:29:31,560
Speaker 1: much M and A or your capex, but that might change.

464
00:29:31,760 --> 00:29:35,560
Speaker 1: But can you see a scenario realistically where this does

465
00:29:35,720 --> 00:29:39,479
Speaker 1: kind of cause a bigger contagion impact. For example, you know,

466
00:29:40,400 --> 00:29:43,040
Speaker 1: clos have been a really popular trade for a long time,

467
00:29:43,600 --> 00:29:45,800
Speaker 1: and when we talk to people about that, they always say, well,

468
00:29:45,840 --> 00:29:49,560
Speaker 1: you know, they're very safe, they're very diversified. One big

469
00:29:49,600 --> 00:29:52,800
Speaker 1: fund manager used the word bulletproof. So it's quite a

470
00:29:52,800 --> 00:29:55,200
Speaker 1: crowded trade. But we talk to other investors, who are

471
00:29:55,320 --> 00:29:57,280
Speaker 1: you know, levering up to buy the equity tranch.

472
00:29:58,560 --> 00:30:01,000
Speaker 4: You know there going to be some losses.

473
00:30:02,560 --> 00:30:05,920
Speaker 1: Could there be big enough losses that you know, magnify

474
00:30:05,960 --> 00:30:08,680
Speaker 1: it across the system that caused you know, a big,

475
00:30:08,800 --> 00:30:11,400
Speaker 1: big shifting sentiment to the extent you know, because sentiment

476
00:30:11,440 --> 00:30:14,680
Speaker 1: can change very quickly. Markets can suddenly become very liquid

477
00:30:14,720 --> 00:30:17,280
Speaker 1: when you want to sell, and that exacerbates things. Do

478
00:30:17,360 --> 00:30:20,680
Speaker 1: you see a bigger fallout in terms of contagion across

479
00:30:20,680 --> 00:30:21,440
Speaker 1: the board in credit?

480
00:30:22,360 --> 00:30:25,280
Speaker 3: I don't see a bigger fallout in terms of credit

481
00:30:25,360 --> 00:30:28,000
Speaker 3: unless we get some sort of equity meltdown. I think

482
00:30:28,760 --> 00:30:35,000
Speaker 3: equities through the vis will transmit over to corporate credit.

483
00:30:35,960 --> 00:30:40,720
Speaker 3: I think private credit, clos, middle market loans, all those

484
00:30:40,760 --> 00:30:42,920
Speaker 3: things are a little bit of a different animal in

485
00:30:42,960 --> 00:30:45,840
Speaker 3: my mind. And the way I think about this is,

486
00:30:45,960 --> 00:30:49,520
Speaker 3: we're talking about this marked to model thing, and you know,

487
00:30:49,600 --> 00:30:52,920
Speaker 3: let's say private credit sas loans in general on a

488
00:30:52,960 --> 00:30:58,480
Speaker 3: marked to model basis are ninety seven dollars price, where

489
00:30:58,640 --> 00:31:04,280
Speaker 3: clos are a ninety dollars price and moving lower, say

490
00:31:04,480 --> 00:31:08,920
Speaker 3: for some of these SaaS loans. My thought is that

491
00:31:09,280 --> 00:31:16,240
Speaker 3: this is definitely a problem for insurance based accounts that

492
00:31:16,360 --> 00:31:19,680
Speaker 3: might own a lot of private credit, and so once

493
00:31:19,760 --> 00:31:25,680
Speaker 3: those loans get below eighty they have to basically realize

494
00:31:25,720 --> 00:31:29,640
Speaker 3: those losses, and so there's another knock on. The other

495
00:31:29,720 --> 00:31:34,000
Speaker 3: knock on is that we've got these private letter ratings

496
00:31:34,040 --> 00:31:39,440
Speaker 3: that have exploded in popularity with many of these insurance companies.

497
00:31:40,120 --> 00:31:44,040
Speaker 3: And it's not lost on me that the NAIIC, through

498
00:31:44,120 --> 00:31:48,320
Speaker 3: one of their committee committees, has now taken upon themselves

499
00:31:48,400 --> 00:31:53,240
Speaker 3: to literally challenge many of these ratings. So I think

500
00:31:53,280 --> 00:31:57,760
Speaker 3: it's all linked. It's not clear exactly how it's lengked,

501
00:31:58,760 --> 00:32:02,080
Speaker 3: but my point is that once these loan prices move lower,

502
00:32:03,040 --> 00:32:05,920
Speaker 3: there is real damage to be created, and I'm not

503
00:32:06,000 --> 00:32:09,400
Speaker 3: saying it's systemic. I'm not saying it's going to bleed

504
00:32:09,440 --> 00:32:12,080
Speaker 3: over into high yield, because I think high yield is

505
00:32:12,120 --> 00:32:16,600
Speaker 3: a different animal these days. High yield's very has moved

506
00:32:16,640 --> 00:32:19,680
Speaker 3: up in credit a lot, while private credit, I think,

507
00:32:19,760 --> 00:32:22,360
Speaker 3: if I'm being honest, has taken on a lot of

508
00:32:22,400 --> 00:32:26,240
Speaker 3: the worst names that would once go to high yield.

509
00:32:26,880 --> 00:32:30,560
Speaker 3: One analogy I just thought occurred to me is that,

510
00:32:30,600 --> 00:32:35,400
Speaker 3: again going back to my securitized days as a mortgage

511
00:32:35,520 --> 00:32:42,280
Speaker 3: portfolio manager, when we see loans that are stuck in

512
00:32:42,360 --> 00:32:46,320
Speaker 3: a mortgage pool that otherwise had the ability to refinance,

513
00:32:47,360 --> 00:32:50,000
Speaker 3: we know that those loans are probably in trouble are

514
00:32:50,000 --> 00:32:52,360
Speaker 3: not great credits. So in other words, if we have

515
00:32:52,360 --> 00:32:56,880
Speaker 3: a refinance event and these folks can't refinance due to

516
00:32:56,960 --> 00:33:01,480
Speaker 3: their credit, then those loans that are left over in

517
00:33:01,520 --> 00:33:05,000
Speaker 3: the pool are probably not great. I liken that to

518
00:33:05,080 --> 00:33:08,800
Speaker 3: what's going on now in private credit. So my point

519
00:33:08,880 --> 00:33:11,959
Speaker 3: is that a lot of the loans when the market

520
00:33:12,040 --> 00:33:15,640
Speaker 3: was closed were originated during COVID and had to go

521
00:33:15,680 --> 00:33:19,480
Speaker 3: to private credit to get some sort of refinanced done

522
00:33:19,800 --> 00:33:24,080
Speaker 3: or financing done. Now we're in normal market times, we're

523
00:33:24,120 --> 00:33:28,560
Speaker 3: functioning well, very liquid. Many of those companies went back

524
00:33:28,600 --> 00:33:33,200
Speaker 3: to the public markets. So are you telling me that

525
00:33:33,240 --> 00:33:37,360
Speaker 3: the loans that are still left in private credit really

526
00:33:37,400 --> 00:33:40,320
Speaker 3: want to be in private credit or are they there

527
00:33:40,360 --> 00:33:44,400
Speaker 3: because they can't refinance in the public markets. I'm guessing

528
00:33:44,880 --> 00:33:47,760
Speaker 3: that a lot of them couldn't refinance and go to

529
00:33:47,800 --> 00:33:51,560
Speaker 3: the public markets. So my analogy in linking all these

530
00:33:51,600 --> 00:33:54,959
Speaker 3: things is not perfect. It's not one hundred percent correlated,

531
00:33:55,680 --> 00:33:59,360
Speaker 3: but it certainly seems like we've got a couple of

532
00:33:59,440 --> 00:34:02,760
Speaker 3: things going on on. One is loan prices are not

533
00:34:03,760 --> 00:34:09,359
Speaker 3: marked properly as judged by the COLO market. Two, we've

534
00:34:09,400 --> 00:34:12,360
Speaker 3: got this AI thing going on that's really bringing in

535
00:34:12,440 --> 00:34:17,480
Speaker 3: the question many of the models of these SaaS based companies. Three,

536
00:34:17,719 --> 00:34:20,400
Speaker 3: we've got much higher interest rates that are really going

537
00:34:20,520 --> 00:34:24,239
Speaker 3: to make refinancing and sort of the terminal value of

538
00:34:24,280 --> 00:34:30,359
Speaker 3: the firm problematic. So and then four, the returns are

539
00:34:30,360 --> 00:34:32,400
Speaker 3: not going to look as great as many of these

540
00:34:32,480 --> 00:34:36,200
Speaker 3: private credit investors thought that they were getting because the

541
00:34:36,280 --> 00:34:40,839
Speaker 3: extend and pretend really will push down your returns materially.

542
00:34:42,080 --> 00:34:44,960
Speaker 2: If you if you look at the cred enhancement for

543
00:34:45,880 --> 00:34:50,120
Speaker 2: the typically weated mid market, Sillo notes, it's it's maybe

544
00:34:50,160 --> 00:34:52,840
Speaker 2: forty five percent or something like that. So so you

545
00:34:52,880 --> 00:34:56,279
Speaker 2: would have to have an awful lot of defaults with

546
00:34:56,400 --> 00:35:00,719
Speaker 2: an awful high loss severity before you actually hit the

547
00:35:00,760 --> 00:35:03,279
Speaker 2: triple A level. Now I'm bringing up the triple a's

548
00:35:03,280 --> 00:35:06,239
Speaker 2: because that's the most extreme example. But of course, if

549
00:35:06,280 --> 00:35:08,400
Speaker 2: you go further down in the capital structure to the

550
00:35:08,400 --> 00:35:11,480
Speaker 2: extent that exists, because not all mid market clos have

551
00:35:11,480 --> 00:35:15,440
Speaker 2: a fully built out capital structure, but to the extending exists,

552
00:35:15,440 --> 00:35:17,080
Speaker 2: if you go down further in the capital structure, then

553
00:35:17,120 --> 00:35:21,920
Speaker 2: you will again see fairly highly highly enhanced twoanches in

554
00:35:21,960 --> 00:35:26,000
Speaker 2: the structure. So I think we have to distinguish between

555
00:35:26,000 --> 00:35:28,799
Speaker 2: the loans being very risky, which they are, and the

556
00:35:28,880 --> 00:35:32,839
Speaker 2: loans being riskier than what the structures are actually designed for.

557
00:35:34,000 --> 00:35:36,759
Speaker 3: I would agree if that was a question. I think

558
00:35:36,920 --> 00:35:41,399
Speaker 3: clos are in the triple A space are frankly very

559
00:35:41,400 --> 00:35:44,120
Speaker 3: well insulated. But I would I would disagree as we

560
00:35:44,200 --> 00:35:47,880
Speaker 3: get down into the capital stack. I think, you know,

561
00:35:47,920 --> 00:35:50,480
Speaker 3: as we get down into triple b's and double b's,

562
00:35:50,560 --> 00:35:55,799
Speaker 3: that's that's an entirely different animal. I think one part

563
00:35:55,800 --> 00:35:59,400
Speaker 3: of that evidence is that going back to this market

564
00:35:59,440 --> 00:36:03,239
Speaker 3: value over colateralization. We continue to see that decline at

565
00:36:03,280 --> 00:36:06,960
Speaker 3: the triple B level, and I think if these loans

566
00:36:07,000 --> 00:36:09,640
Speaker 3: continue to get marked down, you get to a point

567
00:36:09,920 --> 00:36:13,640
Speaker 3: where there's not enough market value at the triple B

568
00:36:13,800 --> 00:36:18,800
Speaker 3: level to cover the debt. In other words, you can't

569
00:36:18,840 --> 00:36:22,839
Speaker 3: sell the loans in the pool to retire the debt

570
00:36:23,280 --> 00:36:28,200
Speaker 3: on the CLO. It's not there yet, but I think

571
00:36:28,520 --> 00:36:31,800
Speaker 3: it's a worry, and my job as a bond person

572
00:36:32,000 --> 00:36:35,080
Speaker 3: is to worry all the time and make sure we're

573
00:36:35,080 --> 00:36:38,200
Speaker 3: getting our principle paid back. So I think your point

574
00:36:38,480 --> 00:36:41,439
Speaker 3: is valid. I also think it's to be Frank, it's

575
00:36:41,520 --> 00:36:44,719
Speaker 3: very difficult to have this conversation in terms of all

576
00:36:44,760 --> 00:36:49,280
Speaker 3: the different markets that this touches, and we could probably

577
00:36:49,360 --> 00:36:52,440
Speaker 3: do an hour podcast on each one of these and

578
00:36:52,480 --> 00:36:57,160
Speaker 3: just really dig into it. But I think my point

579
00:36:57,200 --> 00:37:01,160
Speaker 3: is again, like spreads are tight, there's a lot of uncertainty,

580
00:37:02,080 --> 00:37:04,879
Speaker 3: and that just doesn't make sense to me, especially in

581
00:37:04,920 --> 00:37:11,480
Speaker 3: this really changing landscape of software loans and AI and

582
00:37:11,520 --> 00:37:15,240
Speaker 3: so it's really it's made me hyper aware. My head's

583
00:37:15,239 --> 00:37:18,319
Speaker 3: on a swivel. I'm looking around and just trying to

584
00:37:18,320 --> 00:37:21,759
Speaker 3: make sure that we've got everything buttoned down for that reason.

585
00:37:21,800 --> 00:37:22,400
Speaker 4: Pull It makes me.

586
00:37:22,640 --> 00:37:25,560
Speaker 1: I find it really unbelievable that you would say that

587
00:37:25,680 --> 00:37:28,400
Speaker 1: Triple A's are kind of immune to this, because you know,

588
00:37:28,480 --> 00:37:32,040
Speaker 1: if clos start taking a hammering at any level, there's

589
00:37:32,080 --> 00:37:33,960
Speaker 1: going to be a big sort of you know, kneeja

590
00:37:34,120 --> 00:37:36,280
Speaker 1: reaction away from the product.

591
00:37:36,320 --> 00:37:36,760
Speaker 4: I think.

592
00:37:37,560 --> 00:37:39,880
Speaker 1: You know, look at that massive etf out there that

593
00:37:39,960 --> 00:37:43,160
Speaker 1: you know everyone trades very heavily. If any part of

594
00:37:43,200 --> 00:37:45,800
Speaker 1: the CLO blows up, you know, just imagine the reaction.

595
00:37:45,960 --> 00:37:49,359
Speaker 1: Just imagine the spread move across the board. Why why

596
00:37:49,440 --> 00:37:50,799
Speaker 1: would Triple A is not blow out?

597
00:37:51,200 --> 00:37:55,000
Speaker 3: Oh okay, so now we're talking the same language. I

598
00:37:55,160 --> 00:37:57,840
Speaker 3: was wanting to be clear about did I think that

599
00:37:57,920 --> 00:38:03,399
Speaker 3: there was any type of principle risk two clos at

600
00:38:03,440 --> 00:38:05,920
Speaker 3: a Triple A level? And my answer is, structurally no,

601
00:38:06,080 --> 00:38:10,600
Speaker 3: I think they're built very well there. There's triggers in

602
00:38:10,680 --> 00:38:13,279
Speaker 3: place that will protect a Triple A holder from a

603
00:38:13,320 --> 00:38:18,400
Speaker 3: spread perspective. I think, frankly, we voted with our feet

604
00:38:18,520 --> 00:38:21,560
Speaker 3: months ago. We sold all of our clos. We don't

605
00:38:21,760 --> 00:38:26,720
Speaker 3: hold any clos except for maybe a couple of smaller

606
00:38:26,760 --> 00:38:30,719
Speaker 3: deals that we believe will refinance very soon. But we

607
00:38:30,760 --> 00:38:33,520
Speaker 3: are waiting for a better opportunity to enter the market.

608
00:38:33,560 --> 00:38:37,480
Speaker 3: And I would wholeheartedly agree with you that triple A

609
00:38:37,640 --> 00:38:43,080
Speaker 3: spreads will be impacted. And you know, counterintuitively, this very

610
00:38:43,239 --> 00:38:50,239
Speaker 3: large triple A CLO which has had great success, is

611
00:38:50,320 --> 00:38:56,720
Speaker 3: also a problem for the market. Yeah, and that once

612
00:38:56,760 --> 00:38:59,719
Speaker 3: you get a redemption request that's very sizable, and there's

613
00:38:59,719 --> 00:39:02,400
Speaker 3: a lot of very large institutions. I believe in that

614
00:39:02,960 --> 00:39:08,520
Speaker 3: ETF that reverberates immediately through the market because everyone sees

615
00:39:08,680 --> 00:39:12,759
Speaker 3: the redemption on the screens on Bloomberg and then they

616
00:39:12,840 --> 00:39:17,000
Speaker 3: begin selling their clos before or backing their bids up

617
00:39:17,120 --> 00:39:20,480
Speaker 3: before this particularly TF can redeem.

618
00:39:20,800 --> 00:39:23,080
Speaker 1: And how does this not all feed through credit? I

619
00:39:23,120 --> 00:39:26,279
Speaker 1: mean there is, as you say, at such raise of

620
00:39:26,320 --> 00:39:30,040
Speaker 1: thin spreads, there's so much uncertainty, so much risk potentially

621
00:39:30,040 --> 00:39:34,239
Speaker 1: building up, and liquidity flips like a dime on dime

622
00:39:34,480 --> 00:39:38,600
Speaker 1: whenever things change. How does this not all rip through

623
00:39:38,840 --> 00:39:40,280
Speaker 1: credit once it starts to unravel.

624
00:39:41,360 --> 00:39:44,440
Speaker 3: I think it could, but I still think we're at

625
00:39:44,480 --> 00:39:48,200
Speaker 3: a part of the market where it's somewhat insulated. Again,

626
00:39:48,280 --> 00:39:50,360
Speaker 3: I go back to I think for all of credit

627
00:39:50,719 --> 00:39:53,360
Speaker 3: to really be immune, we're going to have to go

628
00:39:53,440 --> 00:39:56,600
Speaker 3: back to some sort of equity event where vic Spike's

629
00:39:57,280 --> 00:40:01,759
Speaker 3: high yield widens IG widens. But until we get to

630
00:40:01,800 --> 00:40:06,960
Speaker 3: that point, I think a lot of frankly risk based

631
00:40:06,960 --> 00:40:11,000
Speaker 3: capital types of investors like insurers are looking around, going, wait,

632
00:40:11,120 --> 00:40:12,960
Speaker 3: I can buy this and get a five and a

633
00:40:13,000 --> 00:40:17,280
Speaker 3: half percent yield at a triple B for a great company.

634
00:40:18,000 --> 00:40:18,520
Speaker 3: I'm all in.

635
00:40:20,360 --> 00:40:23,200
Speaker 4: How wide do cls breads go? Do you have a

636
00:40:23,200 --> 00:40:24,759
Speaker 4: prediction this year?

637
00:40:25,120 --> 00:40:27,640
Speaker 3: Oh? Gosh, I would say very late in the year.

638
00:40:27,920 --> 00:40:32,160
Speaker 3: I think we could see him twenty to thirty wider.

639
00:40:32,200 --> 00:40:38,520
Speaker 3: I think it's really predicated on the AI and SaaS

640
00:40:39,760 --> 00:40:43,920
Speaker 3: loan prices, as well as the redemption request that we

641
00:40:43,960 --> 00:40:46,680
Speaker 3: see at some of these BDCs. I think it's all

642
00:40:46,719 --> 00:40:47,880
Speaker 3: related to my opinion.

643
00:40:49,600 --> 00:40:52,919
Speaker 1: So you have a big Pufolio poll. Was it three

644
00:40:52,960 --> 00:40:55,880
Speaker 1: hundred billion dollars.

645
00:40:55,480 --> 00:40:59,640
Speaker 3: At American country? Yes? Yes, we manage about three hundred

646
00:40:59,640 --> 00:41:02,080
Speaker 3: billion cross equities, fixed income, etc.

647
00:41:02,440 --> 00:41:04,439
Speaker 1: And so you can't just sit in cash because that's

648
00:41:04,480 --> 00:41:07,480
Speaker 1: getting burned up by inflation. What do you actually do

649
00:41:07,520 --> 00:41:11,120
Speaker 1: in this scenario when you're you know, somewhat frightened of

650
00:41:11,400 --> 00:41:14,360
Speaker 1: what might happen in private credit and clos Where do

651
00:41:14,440 --> 00:41:15,120
Speaker 1: you put your money.

652
00:41:15,680 --> 00:41:19,920
Speaker 3: We definitely carry on investing because we can't be in cash.

653
00:41:20,000 --> 00:41:22,560
Speaker 3: I would say our approach with our clients has been

654
00:41:22,680 --> 00:41:25,520
Speaker 3: that we want to continue investing. We want to stay

655
00:41:26,040 --> 00:41:29,520
Speaker 3: for Again, I'm a securitized guy, but even in our

656
00:41:30,200 --> 00:41:33,719
Speaker 3: investment grade or high yield, we want to stay up

657
00:41:33,719 --> 00:41:37,120
Speaker 3: in credit in shorter spread duration. So what does that mean.

658
00:41:37,160 --> 00:41:39,759
Speaker 3: That means if spreads word to widen, we're going to

659
00:41:39,760 --> 00:41:43,560
Speaker 3: be less impacted. If yields were to rise, we'd be

660
00:41:44,040 --> 00:41:47,520
Speaker 3: less impacted. So our job here is to basically continue

661
00:41:48,000 --> 00:41:52,279
Speaker 3: to invest, protect our investors in terms of earning them

662
00:41:52,320 --> 00:41:56,120
Speaker 3: a good return, but making sure if something draconian happens

663
00:41:56,200 --> 00:41:58,680
Speaker 3: that we're very well insulated and we can take that

664
00:41:58,800 --> 00:42:03,400
Speaker 3: capital and repurpose it to some other place so we

665
00:42:03,440 --> 00:42:06,360
Speaker 3: have plenty of liquidity. One of the places we're investing

666
00:42:06,440 --> 00:42:10,840
Speaker 3: right now is agency mortgages and other quasi triple A

667
00:42:10,960 --> 00:42:14,799
Speaker 3: mortgage assets that we think are very attractive, and if

668
00:42:14,800 --> 00:42:17,960
Speaker 3: we get an opportunity to buy colos, if spreads widen

669
00:42:18,120 --> 00:42:21,200
Speaker 3: or something happens in high yield, we can sell those

670
00:42:21,239 --> 00:42:24,800
Speaker 3: assets and move into these other areas of the market.

671
00:42:25,000 --> 00:42:28,360
Speaker 3: In the meantime, burning five and a half percent or

672
00:42:28,440 --> 00:42:32,200
Speaker 3: so for a very high quality, short duration asset.

673
00:42:33,920 --> 00:42:36,560
Speaker 1: What about in structive finance though, is there parts of

674
00:42:36,600 --> 00:42:38,959
Speaker 1: the you seem to like the liquid parts of the market.

675
00:42:39,040 --> 00:42:40,600
Speaker 1: Is there a part of the liquid abs market you

676
00:42:40,640 --> 00:42:41,480
Speaker 1: will take it interested in?

677
00:42:41,600 --> 00:42:46,879
Speaker 3: Right now, we're really focused in American Century, were really

678
00:42:46,920 --> 00:42:50,360
Speaker 3: focused on the non traditional asset backed security. So for

679
00:42:50,600 --> 00:42:57,680
Speaker 3: liquidity purposes, we focus on things like residential mortgages, prime mortgages.

680
00:42:58,280 --> 00:43:02,400
Speaker 3: There's something called non qualified mortgages. So those are triple

681
00:43:02,440 --> 00:43:05,840
Speaker 3: A assets that we think are very attractive. We're also

682
00:43:05,920 --> 00:43:09,680
Speaker 3: by double a's there, and then we're really barbelling that

683
00:43:09,880 --> 00:43:15,000
Speaker 3: with non traditional asset backed securities that offer very attractive yield,

684
00:43:15,360 --> 00:43:19,480
Speaker 3: short duration. These are things that you know, are not

685
00:43:19,760 --> 00:43:24,480
Speaker 3: trafficked in every day. Definitely need a core competency in

686
00:43:24,560 --> 00:43:27,360
Speaker 3: these assets. And you know, we're talking about things like

687
00:43:27,480 --> 00:43:32,240
Speaker 3: cell towers or I think the latest you know craze

688
00:43:32,280 --> 00:43:35,440
Speaker 3: has been data centers, which we were investing in a

689
00:43:35,480 --> 00:43:38,800
Speaker 3: long time ago before it became mainstream. And it's things

690
00:43:38,920 --> 00:43:42,160
Speaker 3: like that that come along that are new and different,

691
00:43:42,920 --> 00:43:45,800
Speaker 3: but we can underwrite and so we like to invest

692
00:43:45,800 --> 00:43:50,640
Speaker 3: in those alongside with these liquid sectors and residential.

693
00:43:50,239 --> 00:43:52,160
Speaker 1: How do you play the data centers though, which are

694
00:43:52,200 --> 00:43:54,239
Speaker 1: sort of a craze as tons of money piling in,

695
00:43:54,320 --> 00:43:57,279
Speaker 1: But there's also the risk of obsolescence. There's also, you know,

696
00:43:57,600 --> 00:43:59,879
Speaker 1: concern that you know these things, there were so many

697
00:44:00,080 --> 00:44:02,120
Speaker 1: them that maybe they are all being done properly.

698
00:44:03,400 --> 00:44:08,080
Speaker 3: That's a that's a great question. We want we want

699
00:44:08,120 --> 00:44:11,160
Speaker 3: to date them. We don't want to marry them, and

700
00:44:11,239 --> 00:44:15,799
Speaker 3: so for us, data center is interesting and we try

701
00:44:15,840 --> 00:44:20,200
Speaker 3: to avoid the older data centers. As an analogy, we

702
00:44:20,239 --> 00:44:24,080
Speaker 3: saw a deal probably four or five months ago. Spreads

703
00:44:24,080 --> 00:44:27,200
Speaker 3: were particularly tight. It was a single a asset. The

704
00:44:27,320 --> 00:44:30,200
Speaker 3: data center was ten years old. I mean in data

705
00:44:30,200 --> 00:44:33,879
Speaker 3: center terms, this thing was old, but yet spreads were

706
00:44:33,880 --> 00:44:36,920
Speaker 3: really tight. And then the next month we saw a

707
00:44:37,000 --> 00:44:39,160
Speaker 3: brand new I don't want to use names, but state

708
00:44:39,200 --> 00:44:43,759
Speaker 3: of the art data center great fully leased out to

709
00:44:43,960 --> 00:44:49,760
Speaker 3: a Tier one hyper scaler. Terms were five years. Spread

710
00:44:49,960 --> 00:44:54,160
Speaker 3: was great. That's something we can latch onto and get

711
00:44:54,200 --> 00:44:58,600
Speaker 3: around so we can avoid the obsolescence. The only thing

712
00:44:58,640 --> 00:45:01,360
Speaker 3: that worries me about data in the near term, and

713
00:45:01,440 --> 00:45:04,439
Speaker 3: that if we're just dating these and not marrying them,

714
00:45:04,800 --> 00:45:08,279
Speaker 3: is really the supply. And I've written a note to

715
00:45:08,320 --> 00:45:11,080
Speaker 3: our clients, and you know, I just say, supply is

716
00:45:11,120 --> 00:45:14,080
Speaker 3: coming out of our ears. I talked to my corporate

717
00:45:14,160 --> 00:45:17,319
Speaker 3: counterpart and he's got data center. I talked to my

718
00:45:17,440 --> 00:45:21,720
Speaker 3: CMBs guy. Data center's coming over there, ABS data center,

719
00:45:22,000 --> 00:45:25,399
Speaker 3: private markets data center. So I think there's so much

720
00:45:25,560 --> 00:45:29,600
Speaker 3: debt to be issued. My concern is about supply and

721
00:45:29,640 --> 00:45:31,440
Speaker 3: what is the clearing level for spreads?

722
00:45:31,760 --> 00:45:33,680
Speaker 4: And why by now when the next one's coming cheaper?

723
00:45:34,440 --> 00:45:35,640
Speaker 3: Yeah? Pretty much?

724
00:45:36,239 --> 00:45:40,920
Speaker 1: Then in the public private, I mean you look at

725
00:45:41,600 --> 00:45:43,600
Speaker 1: both that. You don't like the private so much because

726
00:45:43,600 --> 00:45:45,680
Speaker 1: the ill pretty bit the ABF is where that sort

727
00:45:45,719 --> 00:45:47,600
Speaker 1: of business is going. Do you look at I mean,

728
00:45:47,600 --> 00:45:50,080
Speaker 1: how do you how do you prefer to invest in

729
00:45:50,400 --> 00:45:52,040
Speaker 1: data centers? A public or private?

730
00:45:52,920 --> 00:45:56,160
Speaker 3: We don't care. What I find quite interesting is that

731
00:45:57,160 --> 00:46:00,239
Speaker 3: I have a couple of examples. One is that oil

732
00:46:00,280 --> 00:46:02,560
Speaker 3: and gas. Oil and gas is one of those niche

733
00:46:02,560 --> 00:46:05,960
Speaker 3: markets I was talking about that comes in public or private,

734
00:46:06,719 --> 00:46:09,719
Speaker 3: and I've never seen this before. Usually when we buy

735
00:46:09,760 --> 00:46:13,799
Speaker 3: a private deal four A two to be precise, there's

736
00:46:13,880 --> 00:46:18,080
Speaker 3: a real spread compensation for the ill liquidity. Of course,

737
00:46:18,120 --> 00:46:20,080
Speaker 3: you could sell it, but it takes a while and

738
00:46:20,160 --> 00:46:25,479
Speaker 3: it's a longer sale. This oil and gas receivables deal

739
00:46:25,600 --> 00:46:29,400
Speaker 3: came through, meaning it priced tighter than in a lower

740
00:46:29,520 --> 00:46:33,920
Speaker 3: yield than it's public counterpart. I've never seen that before,

741
00:46:34,800 --> 00:46:37,239
Speaker 3: and now I see it all the time. And so

742
00:46:37,560 --> 00:46:40,560
Speaker 3: what we see is data centers coming at or through

743
00:46:41,080 --> 00:46:45,839
Speaker 3: public market comps. We see oil and gas coming at

744
00:46:45,840 --> 00:46:48,400
Speaker 3: the same spread as a public market and that doesn't

745
00:46:48,440 --> 00:46:52,000
Speaker 3: make any sense to me. So I guess my take

746
00:46:52,160 --> 00:46:57,160
Speaker 3: is that investment grade asset based finance again a home

747
00:46:57,239 --> 00:47:00,880
Speaker 3: run five years ago, not so much today. You know,

748
00:47:00,920 --> 00:47:04,200
Speaker 3: the spreads that we observe that are getting transacted at

749
00:47:04,280 --> 00:47:07,040
Speaker 3: are the same spreads that we can we can achieve

750
00:47:08,600 --> 00:47:13,719
Speaker 3: in public markets. I also think it's interesting that now

751
00:47:13,719 --> 00:47:19,319
Speaker 3: we're at the point that these very large ABF providers

752
00:47:20,560 --> 00:47:27,000
Speaker 3: are now having to do deals with large entities that

753
00:47:27,280 --> 00:47:29,279
Speaker 3: we see in our market all the time just to

754
00:47:29,280 --> 00:47:33,759
Speaker 3: get enough supply to fulfill up their ABF vehicles. That

755
00:47:33,880 --> 00:47:37,160
Speaker 3: to me is a sign that you know, demand is

756
00:47:37,239 --> 00:47:41,680
Speaker 3: overwhelmed supply and that we're really at a point where

757
00:47:41,840 --> 00:47:44,680
Speaker 3: I don't know how much more origination can be done

758
00:47:45,360 --> 00:47:46,840
Speaker 3: without sacrificing credit.

759
00:47:49,080 --> 00:47:51,000
Speaker 1: With the blow up in software, we've seen the kind

760
00:47:51,000 --> 00:47:54,880
Speaker 1: of gravitation towards hot assets, you know, tangible stuff that

761
00:47:54,920 --> 00:47:57,600
Speaker 1: you can actually sell if things get bad and monetize,

762
00:47:58,120 --> 00:48:01,800
Speaker 1: and that's sort of pushing into again asset backed, asset

763
00:48:01,840 --> 00:48:04,640
Speaker 1: based finance. But then on the other hand, you've got

764
00:48:05,160 --> 00:48:08,719
Speaker 1: very liquid credit paying a decent yield. You know that

765
00:48:08,760 --> 00:48:11,080
Speaker 1: there's more than five percent on an I bond, which

766
00:48:11,120 --> 00:48:12,640
Speaker 1: is you know, that sort of no brainer for a

767
00:48:12,640 --> 00:48:15,560
Speaker 1: lot of people. So so how difficult right now is

768
00:48:15,560 --> 00:48:16,400
Speaker 1: it for you to sell?

769
00:48:17,080 --> 00:48:18,680
Speaker 4: Has it back to asset.

770
00:48:18,400 --> 00:48:22,320
Speaker 1: Based to end users that they shine away from complexity

771
00:48:22,360 --> 00:48:25,839
Speaker 1: or they pushing towards it because they like the tangibility

772
00:48:25,840 --> 00:48:26,120
Speaker 1: of it.

773
00:48:26,760 --> 00:48:29,480
Speaker 3: I think for us, we're seeing definitely a pickup and

774
00:48:29,600 --> 00:48:33,879
Speaker 3: interest around the globe. We have a good presence in

775
00:48:33,960 --> 00:48:39,560
Speaker 3: Asia and we're seeing interest there for particularly insurance and

776
00:48:39,600 --> 00:48:43,279
Speaker 3: other types of investors that are frankly looking for some diversity.

777
00:48:44,320 --> 00:48:47,719
Speaker 3: And if we can show to them a model portfolio

778
00:48:47,880 --> 00:48:52,000
Speaker 3: or something that has that's real and tangible, that has

779
00:48:52,040 --> 00:48:56,880
Speaker 3: a yield of say six percent and is a single

780
00:48:56,920 --> 00:49:03,120
Speaker 3: a rated proven asset class versus five percent for triple

781
00:49:03,120 --> 00:49:08,200
Speaker 3: B corporate, they're definitely interested. And what I hear back

782
00:49:08,239 --> 00:49:11,839
Speaker 3: in return, which is why I think private credit or

783
00:49:12,160 --> 00:49:16,400
Speaker 3: ABF is quite interesting. Their reply back is wow, I

784
00:49:16,440 --> 00:49:20,080
Speaker 3: didn't know that was achievable in the public markets. And

785
00:49:20,200 --> 00:49:24,399
Speaker 3: my response is, okay, tell me more. And so through

786
00:49:24,440 --> 00:49:28,040
Speaker 3: these discussions, you know, really, what I've learned is that

787
00:49:28,200 --> 00:49:33,560
Speaker 3: a lot of these ABF vehicles, especially that are investment grade,

788
00:49:34,160 --> 00:49:37,000
Speaker 3: are you know, again, let's go back to some math.

789
00:49:37,080 --> 00:49:39,680
Speaker 3: I think very roughly, you know you can earn eight

790
00:49:39,719 --> 00:49:44,920
Speaker 3: percent yield, less fees, less incentives, you're right back to

791
00:49:44,960 --> 00:49:50,760
Speaker 3: say seven six and a half percent. And I asked

792
00:49:50,800 --> 00:49:54,200
Speaker 3: the folks that I'm talking with, do you prefer to

793
00:49:54,200 --> 00:49:59,040
Speaker 3: be gated? Do you prefer liquidity? You know what's what

794
00:49:59,160 --> 00:50:01,279
Speaker 3: are you getting out of this deal by locking up

795
00:50:01,280 --> 00:50:04,320
Speaker 3: your capital for seven years? And so that's my point.

796
00:50:04,360 --> 00:50:07,520
Speaker 3: I think, I think all three of these asset classes

797
00:50:07,920 --> 00:50:15,400
Speaker 3: deserve a place in people's portfolio. But in my humble opinion,

798
00:50:17,160 --> 00:50:22,120
Speaker 3: the markets have really pushed spreads tight in terms of

799
00:50:22,160 --> 00:50:26,920
Speaker 3: these private markets ABF and related entities or related markets

800
00:50:28,040 --> 00:50:30,719
Speaker 3: where it doesn't the relative value doesn't make a lot

801
00:50:30,719 --> 00:50:34,399
Speaker 3: of sense to me. So I'm not against any of those.

802
00:50:34,480 --> 00:50:36,880
Speaker 3: I just think all three deserve a place in the portfolio.

803
00:50:37,400 --> 00:50:38,920
Speaker 1: At the same time, there were the clients that sort

804
00:50:38,920 --> 00:50:42,319
Speaker 1: of worried about the doomsday scenario that you outlined at

805
00:50:42,320 --> 00:50:43,280
Speaker 1: the beginning of this cool.

806
00:50:44,360 --> 00:50:48,680
Speaker 3: Well, let's put it this way. I was in Hong

807
00:50:48,760 --> 00:50:52,200
Speaker 3: Kong doing a similar speech, which is crazy that I'm saying.

808
00:50:52,200 --> 00:50:56,400
Speaker 3: I was in Hong Kong, but there's an insurance company

809
00:50:56,600 --> 00:51:00,000
Speaker 3: that shall go nameless that I couldn't get a meeting

810
00:51:00,200 --> 00:51:04,160
Speaker 3: with who's one of the largest insurers in Asia. And

811
00:51:04,239 --> 00:51:07,000
Speaker 3: the CIO came up to me afterwards and was like, Hey,

812
00:51:07,160 --> 00:51:10,719
Speaker 3: when can we meet? And so I think I think.

813
00:51:11,440 --> 00:51:13,480
Speaker 3: I think people are really starting to wake up to

814
00:51:13,520 --> 00:51:15,279
Speaker 3: the fact that their returns are not going to be

815
00:51:15,280 --> 00:51:18,120
Speaker 3: as good as expected, and they need to look in

816
00:51:18,200 --> 00:51:24,200
Speaker 3: other places and that there's trouble on the horizon. Maybe

817
00:51:24,239 --> 00:51:28,360
Speaker 3: it's a brief storm or maybe it's a tornado. I

818
00:51:28,360 --> 00:51:29,560
Speaker 3: think that's what worries people.

819
00:51:29,640 --> 00:51:33,160
Speaker 1: We just don't know, and in that scenario, us ABS

820
00:51:33,400 --> 00:51:34,440
Speaker 1: is the haven.

821
00:51:35,840 --> 00:51:37,920
Speaker 3: I think it's very well protected. One of the things

822
00:51:37,960 --> 00:51:41,120
Speaker 3: I love about asset backed securities is that we can

823
00:51:41,160 --> 00:51:44,800
Speaker 3: stress test almost anything down to a single A level,

824
00:51:45,600 --> 00:51:49,400
Speaker 3: our single A rating back to the Great Financial Crisis

825
00:51:49,440 --> 00:51:52,880
Speaker 3: type of experience, and they don't lose principle, and I

826
00:51:52,960 --> 00:51:57,279
Speaker 3: show this to clients and other folks and they get

827
00:51:57,280 --> 00:52:01,919
Speaker 3: it immediately. So the principal protection is now spreads could

828
00:52:01,960 --> 00:52:06,400
Speaker 3: definitely widen, but the correlation is much less to high yield.

829
00:52:06,800 --> 00:52:10,200
Speaker 3: So if high yield moves twenty five basis points, you know,

830
00:52:10,239 --> 00:52:12,439
Speaker 3: asset backed securities aren't going to move one for one.

831
00:52:13,880 --> 00:52:16,879
Speaker 3: But of course I widen two hundred basis points, we're

832
00:52:16,880 --> 00:52:19,320
Speaker 3: definitely going to move. So I think it's really about

833
00:52:19,320 --> 00:52:25,279
Speaker 3: the combination of excellent yield principle protected unlikely to get downgraded,

834
00:52:26,120 --> 00:52:28,640
Speaker 3: and that gives a lot of risk based capital types

835
00:52:28,680 --> 00:52:32,160
Speaker 3: of players comfort that they know they're going to earn

836
00:52:32,200 --> 00:52:32,680
Speaker 3: that return.

837
00:52:33,800 --> 00:52:35,719
Speaker 1: Where's the best relative value? You know, I'm going to

838
00:52:35,719 --> 00:52:37,080
Speaker 1: ask you this question because you've heard till the end

839
00:52:37,080 --> 00:52:39,160
Speaker 1: of the podcast. So where is the best relative value

840
00:52:39,200 --> 00:52:41,640
Speaker 1: for let's say the next twelve month horizon?

841
00:52:42,719 --> 00:52:48,759
Speaker 3: Next twelve month horizon? I really like residential mortgages. What

842
00:52:48,840 --> 00:52:51,719
Speaker 3: I would say is, we really are focused on residential

843
00:52:51,760 --> 00:52:56,000
Speaker 3: mortgages anywhere from single A up to triple A. And

844
00:52:56,040 --> 00:53:00,279
Speaker 3: the reason is simple, they admortize, they pay down. We

845
00:53:00,360 --> 00:53:03,560
Speaker 3: think that they're going to offer us a really attractive

846
00:53:03,600 --> 00:53:08,360
Speaker 3: return and it allows us to invest while waiting for

847
00:53:08,360 --> 00:53:15,120
Speaker 3: a better opportunity in other places. Biggest risk, I think

848
00:53:15,160 --> 00:53:19,160
Speaker 3: you know that, SaaS Ai, the uncertainty of it all.

849
00:53:20,760 --> 00:53:23,359
Speaker 1: Great stuff, Paul Norris with American Century Investments. It's been

850
00:53:23,360 --> 00:53:24,880
Speaker 1: a real pleasure having on the Credit Edge.

851
00:53:25,239 --> 00:53:27,440
Speaker 3: Thank you, gentlemen. Can't wait to listen to myself on

852
00:53:27,520 --> 00:53:28,760
Speaker 3: Saturday walking the dog.

853
00:53:29,120 --> 00:53:32,200
Speaker 1: And of course very grateful to Retto Bachmann with Bloomberg Intelligence.

854
00:53:32,200 --> 00:53:34,719
Speaker 1: Thank you for joining us today. What's pleasure For more

855
00:53:34,719 --> 00:53:37,640
Speaker 1: credit market analysis and insight, read all of Reto's great

856
00:53:37,640 --> 00:53:40,360
Speaker 1: work on the Bloomberg Terminal. Bloomberg Intelligence is part of

857
00:53:40,360 --> 00:53:43,319
Speaker 1: our research department, with five hundred analysts and strategies working

858
00:53:43,360 --> 00:53:46,200
Speaker 1: across all the markets. Coverage includes over two thousand equities

859
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860
00:53:48,600 --> 00:53:53,279
Speaker 1: one hundred market industries, currencies, and commodities. Please do subscribe

861
00:53:53,440 --> 00:53:55,959
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862
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00:54:02,440 --> 00:54:05,520
Speaker 1: tell your friends, or email me directly at Jcrombie at

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Speaker 1: Bloomberg dot net. I'm James Crombie, it's been a pleasure

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Speaker 1: having you join us again next week on the Credit Edge.