1 00:00:17,760 --> 00:00:20,360 Speaker 1: Hello, and welcome to The Credit Edge, a weekly markets podcast. 2 00:00:20,480 --> 00:00:23,560 Speaker 1: My name is James Crombie. I'm a senior editor at Bloomberg. 3 00:00:23,560 --> 00:00:27,320 Speaker 2: And I'm Rob Schiffman, senior credit analyst covering global technology 4 00:00:27,360 --> 00:00:30,520 Speaker 2: for Bloomberg Intelligence, who also luckily gets to co leader 5 00:00:30,560 --> 00:00:33,760 Speaker 2: are US High Grade and High Yield research teams. This 6 00:00:33,880 --> 00:00:38,760 Speaker 2: week's we're very pleased to welcome Lotfeekuwe, chief credit strategist 7 00:00:38,760 --> 00:00:39,720 Speaker 2: at Goldman Sachs. 8 00:00:40,280 --> 00:00:42,360 Speaker 3: How are you, Lotfe I'm doing all right, Thank you 9 00:00:42,400 --> 00:00:43,160 Speaker 3: for having me awesome. 10 00:00:43,240 --> 00:00:43,800 Speaker 2: Great to see you. 11 00:00:44,080 --> 00:00:46,479 Speaker 1: Likewise, thanks so much joining us today. We're very excited 12 00:00:46,520 --> 00:00:49,760 Speaker 1: to grill you on all things credit, mortgages and structure products. 13 00:00:50,040 --> 00:00:52,519 Speaker 1: But just before we do, to set the scene, markets 14 00:00:52,560 --> 00:00:54,960 Speaker 1: have been whip swored by trade wars that will probably 15 00:00:54,960 --> 00:00:58,600 Speaker 1: fuel inflation and could also dent US growth. Both would 16 00:00:58,600 --> 00:01:01,000 Speaker 1: be quite bad for credit. Yeah, corporate bonds and loans 17 00:01:01,040 --> 00:01:04,200 Speaker 1: remained priced for perfection after getting squeezed a lot last year. 18 00:01:04,840 --> 00:01:06,560 Speaker 1: Debt spreads are pretty close to where they were in 19 00:01:06,560 --> 00:01:09,680 Speaker 1: two thousand and seven, just before the global financial crisis 20 00:01:09,680 --> 00:01:12,720 Speaker 1: blew everything up. If you only looked at credit market pricing, 21 00:01:12,760 --> 00:01:15,240 Speaker 1: you'd think the world was a very peaceful, calm place 22 00:01:15,319 --> 00:01:18,800 Speaker 1: right now, But the news headlines would suggest otherwise. There's 23 00:01:18,800 --> 00:01:20,679 Speaker 1: a lot of complacency out there. But I also think 24 00:01:20,760 --> 00:01:23,479 Speaker 1: that the very strong investor demand for bonds and loans 25 00:01:23,480 --> 00:01:26,000 Speaker 1: and then not a lot of net new supply is 26 00:01:26,000 --> 00:01:28,759 Speaker 1: actually keeping things artificially tight at the moment. So let's 27 00:01:28,760 --> 00:01:30,920 Speaker 1: start there a lot for what's your take. Should we 28 00:01:30,959 --> 00:01:32,960 Speaker 1: worry more about the trade war? Is it just an 29 00:01:32,959 --> 00:01:36,120 Speaker 1: equity markets story and our credit market's right to be 30 00:01:36,160 --> 00:01:36,800 Speaker 1: so calm? 31 00:01:37,240 --> 00:01:38,920 Speaker 3: Well, I would say a couple of things. Number one, 32 00:01:39,000 --> 00:01:41,360 Speaker 3: I think you know, the resilience has been a common 33 00:01:41,400 --> 00:01:44,120 Speaker 3: theme across all markets, not just credit, and so the 34 00:01:44,160 --> 00:01:47,360 Speaker 3: headlines have notably intensified the last two weeks. And yet 35 00:01:47,440 --> 00:01:51,000 Speaker 3: if you look across the board equities facts, maybe raids 36 00:01:51,120 --> 00:01:54,440 Speaker 3: is somewhat the exception, and certainly credit have been very 37 00:01:54,560 --> 00:01:58,400 Speaker 3: very resilient. There is a few reasons for that. Look 38 00:01:58,760 --> 00:02:01,040 Speaker 3: you know, ultimately, and I think you you've introduced it 39 00:02:01,160 --> 00:02:04,680 Speaker 3: very well. You know, terriffs have macro implications, they have 40 00:02:04,920 --> 00:02:08,800 Speaker 3: micro implications. But on the macro side, everyone agrees that 41 00:02:08,880 --> 00:02:12,160 Speaker 3: it's a short term booster inflation and a long term 42 00:02:12,240 --> 00:02:15,880 Speaker 3: or medium term drag to growth. Markets can price that 43 00:02:16,040 --> 00:02:18,000 Speaker 3: a little bit, unless you know, you kind of take 44 00:02:18,040 --> 00:02:21,280 Speaker 3: things to extreme levels. At the micro level, they are 45 00:02:21,360 --> 00:02:23,919 Speaker 3: hit to earnings, right, and this is why you've seen 46 00:02:23,919 --> 00:02:26,480 Speaker 3: a stronger response on the equity side relative to credit. 47 00:02:27,120 --> 00:02:29,000 Speaker 3: How much of a hit are you going to get. 48 00:02:29,320 --> 00:02:31,560 Speaker 3: Let's assume it's a couple points of a drag on 49 00:02:31,600 --> 00:02:35,960 Speaker 3: earnings growth. That actually shouldn't move your credit metrics that much. 50 00:02:36,000 --> 00:02:39,000 Speaker 3: You know, when you think about interest coverage ratios or 51 00:02:39,080 --> 00:02:43,440 Speaker 3: net or gross leverage all a sequel, they could deteriorate 52 00:02:43,520 --> 00:02:45,760 Speaker 3: a little bit, but the magnitude of the deterioration I 53 00:02:45,760 --> 00:02:48,040 Speaker 3: think is not big enough to move spreads at least 54 00:02:48,080 --> 00:02:51,440 Speaker 3: in aggregate. Now, where you could see an impact is 55 00:02:51,520 --> 00:02:56,160 Speaker 3: really in terms of dispersion, both between sectors and particularly 56 00:02:56,200 --> 00:02:59,160 Speaker 3: within sectors. There's a lot of companies that have greater 57 00:02:59,200 --> 00:03:02,440 Speaker 3: exposure to tear as you know, take Canada as a 58 00:03:02,440 --> 00:03:05,200 Speaker 3: great example of Mexico is another good one. And so 59 00:03:05,360 --> 00:03:08,040 Speaker 3: we would view it as if it persists, and that's 60 00:03:08,040 --> 00:03:12,520 Speaker 3: a big if, as a potential driver of dispersion rather 61 00:03:12,560 --> 00:03:15,040 Speaker 3: than a driver or the absolute direction of the market. 62 00:03:15,360 --> 00:03:17,440 Speaker 2: Well, what do you think we need to break out 63 00:03:17,480 --> 00:03:21,280 Speaker 2: of this resilient range. I mean, in my world, we 64 00:03:21,320 --> 00:03:23,880 Speaker 2: saw a deep seek. It had a big impact for 65 00:03:23,919 --> 00:03:27,679 Speaker 2: the first couple of days, inequities and spreads didn't basically 66 00:03:27,760 --> 00:03:30,560 Speaker 2: move at all, and we've sort of poo pooed it 67 00:03:30,560 --> 00:03:32,480 Speaker 2: with a lot of other people as well. But I 68 00:03:32,560 --> 00:03:35,920 Speaker 2: do get weary with tariffs. It seems to have a 69 00:03:36,040 --> 00:03:41,880 Speaker 2: much larger, bigger macro drag. So what's that headline we 70 00:03:42,040 --> 00:03:44,600 Speaker 2: have to be looking out for? And maybe with this 71 00:03:44,640 --> 00:03:48,320 Speaker 2: Trump administration, you know, people just look through almost all 72 00:03:48,360 --> 00:03:51,120 Speaker 2: the headlines, But where do you see that resilience starting 73 00:03:51,120 --> 00:03:51,800 Speaker 2: to break down? 74 00:03:52,240 --> 00:03:54,640 Speaker 3: A couple of things. Look Number one, I think in 75 00:03:54,640 --> 00:03:57,240 Speaker 3: and of itself, you know, as frustrating as it can be, 76 00:03:57,320 --> 00:04:00,520 Speaker 3: but expensive valuations isn't a reason to be negative on 77 00:04:00,560 --> 00:04:03,440 Speaker 3: the market. And in fact, if you've been trading valuations 78 00:04:03,440 --> 00:04:05,400 Speaker 3: for the last four to five quarters, it's been a 79 00:04:05,480 --> 00:04:08,680 Speaker 3: terrible strategy. And so if you go back forty years, 80 00:04:08,760 --> 00:04:11,360 Speaker 3: there's been plenty of examples where you can stay within 81 00:04:11,400 --> 00:04:14,520 Speaker 3: a very tight range for quite some time without having 82 00:04:14,560 --> 00:04:18,280 Speaker 3: any repricing of risk premium. And so ultimately, to answer 83 00:04:18,320 --> 00:04:22,080 Speaker 3: your question, something needs to break, either a supply demand 84 00:04:22,080 --> 00:04:24,320 Speaker 3: and balance where you're just bringing too much supply to 85 00:04:24,400 --> 00:04:27,240 Speaker 3: the market and demand cannot keep up with that, or 86 00:04:27,560 --> 00:04:30,560 Speaker 3: signs of a rapid deterioration in the cycle called outlook 87 00:04:30,880 --> 00:04:34,320 Speaker 3: i e. Evidence that recession risk has gone up. We're 88 00:04:34,360 --> 00:04:38,000 Speaker 3: not there right now, right And so back to tariffs again, 89 00:04:38,480 --> 00:04:43,200 Speaker 3: I think it would probably take lingering headlines and growing 90 00:04:43,279 --> 00:04:46,800 Speaker 3: concerns among market participants that these terroriorts are permanent and 91 00:04:46,839 --> 00:04:52,200 Speaker 3: they're essentially impairing the ability of CFOs corporate treasurers CEOs 92 00:04:52,480 --> 00:04:57,320 Speaker 3: investors to make capital allocation decisions. It can happen, but 93 00:04:57,400 --> 00:04:59,480 Speaker 3: it's a high bar at the moment. 94 00:05:00,160 --> 00:05:05,039 Speaker 2: Dig more into tariffs and specific bottoms up analysis, But 95 00:05:05,400 --> 00:05:09,320 Speaker 2: you know, I've seen you use words like uninspiring spreads 96 00:05:09,680 --> 00:05:15,840 Speaker 2: or valuation conundrum. So this whole concept of resiliency looking 97 00:05:15,960 --> 00:05:22,839 Speaker 2: through not just tariffs but credit valuations, what has to 98 00:05:22,880 --> 00:05:25,680 Speaker 2: happen for that to break out? Like we're we're at 99 00:05:25,839 --> 00:05:29,720 Speaker 2: near historical tights. I know, yields in particular end up 100 00:05:29,760 --> 00:05:33,320 Speaker 2: making you know, high yield and left loons a little 101 00:05:33,320 --> 00:05:35,720 Speaker 2: bit more attractive. But like, what gets us out of 102 00:05:35,760 --> 00:05:37,200 Speaker 2: this Goldilock scenario? 103 00:05:37,839 --> 00:05:42,680 Speaker 3: Well, I think one of the primary drivers of that 104 00:05:42,760 --> 00:05:46,200 Speaker 3: resilience and to your point is the strength of demand technicals. 105 00:05:46,240 --> 00:05:50,040 Speaker 3: But you know, fixed income, not just credit has income again, right, 106 00:05:50,080 --> 00:05:52,960 Speaker 3: and the last time that happened was about twenty years ago, 107 00:05:53,120 --> 00:05:58,239 Speaker 3: And so yes, spreads are tight. Yes, valuation is uninspiring 108 00:05:58,400 --> 00:06:01,520 Speaker 3: if you're a spread investor, If you're a total turn 109 00:06:01,640 --> 00:06:05,520 Speaker 3: investor and care about the all in yield, it's not 110 00:06:05,680 --> 00:06:08,559 Speaker 3: that bad. You know how IG has an average yield 111 00:06:08,600 --> 00:06:10,600 Speaker 3: of five and a quarter to five and a half percent. 112 00:06:11,200 --> 00:06:13,520 Speaker 3: High yield is around seven and a quarter to seven 113 00:06:13,520 --> 00:06:16,760 Speaker 3: and a half percent. That's a pretty decent value proposition 114 00:06:16,839 --> 00:06:19,320 Speaker 3: in a world where actually, you know, the fault risk 115 00:06:19,360 --> 00:06:23,400 Speaker 3: will likely remain on the benign side. So that's number one. 116 00:06:23,560 --> 00:06:29,200 Speaker 3: Number two, expensive valuation isn't really a problem for just 117 00:06:29,360 --> 00:06:32,520 Speaker 3: credit as an assea class. I mean, on some estimates 118 00:06:32,520 --> 00:06:34,640 Speaker 3: you have thirty five percent of the SMP five hundred 119 00:06:34,640 --> 00:06:36,800 Speaker 3: that has a negative equity respirace. I mean that is 120 00:06:36,839 --> 00:06:39,880 Speaker 3: a valuation conundrum in and of itself. Now, the difference 121 00:06:39,920 --> 00:06:43,000 Speaker 3: I guess between credit and equities is that the equity 122 00:06:43,040 --> 00:06:47,599 Speaker 3: market can overshoot valuation constraints quite some time. In credit, 123 00:06:47,720 --> 00:06:50,800 Speaker 3: you have a natural lower bound, like you can't go 124 00:06:51,040 --> 00:06:53,120 Speaker 3: below a certain level, and in fact, that was very 125 00:06:53,160 --> 00:06:56,960 Speaker 3: surprised after the election by the number of conversations I 126 00:06:57,040 --> 00:07:01,720 Speaker 3: had with investors implying that you can overshoot basically historical valuations, 127 00:07:01,720 --> 00:07:04,800 Speaker 3: that you can have even IG spreads go negative on 128 00:07:04,839 --> 00:07:07,839 Speaker 3: some high quality parts of the market. I disagree with that, 129 00:07:08,080 --> 00:07:11,680 Speaker 3: but you know, it felt a little bit of evaluation frenzy. 130 00:07:11,720 --> 00:07:13,800 Speaker 3: I think back in November, we've corrected some of it, 131 00:07:13,840 --> 00:07:17,880 Speaker 3: and so the point is, you know, something has to break, 132 00:07:18,600 --> 00:07:21,920 Speaker 3: either in terms of fundamentals or technicals, and at the moment, 133 00:07:22,080 --> 00:07:25,240 Speaker 3: I would say strong demand technicals have the upper hand 134 00:07:25,280 --> 00:07:27,160 Speaker 3: in credit, There's no question about it. By the way, 135 00:07:27,200 --> 00:07:29,720 Speaker 3: you also see it in the flow data. That's probably 136 00:07:29,720 --> 00:07:31,920 Speaker 3: the most real time indicator you can look at. But 137 00:07:32,040 --> 00:07:35,480 Speaker 3: week after week, new money keeps going into the asset 138 00:07:35,520 --> 00:07:38,720 Speaker 3: class across the board, you know, leverage, loans, high yields 139 00:07:39,200 --> 00:07:42,880 Speaker 3: IG and then I guess the last shift that's been happening, 140 00:07:42,920 --> 00:07:45,880 Speaker 3: and I think it's one that's a little bit underappreciated 141 00:07:45,920 --> 00:07:49,040 Speaker 3: by people. If you take a step back and think 142 00:07:49,080 --> 00:07:52,440 Speaker 3: about this sort of transition to higher cost of funding environment. 143 00:07:52,880 --> 00:07:54,920 Speaker 3: You know, some people have been concerned about what that 144 00:07:54,960 --> 00:07:57,080 Speaker 3: means for credit quality. But the flip side of that 145 00:07:57,440 --> 00:08:00,560 Speaker 3: is that for credit portfolios, it's been increased the amount 146 00:08:00,560 --> 00:08:03,560 Speaker 3: of coupon payments over time, and that's capital that's on 147 00:08:03,640 --> 00:08:08,000 Speaker 3: autopilot mode, and it's capital that acts as a self 148 00:08:08,040 --> 00:08:11,040 Speaker 3: stabilizing mechanism. Basically, there's a reason why every time you 149 00:08:11,080 --> 00:08:13,720 Speaker 3: widen a little bit by three, four or five basis wants, 150 00:08:14,120 --> 00:08:16,520 Speaker 3: the market buys the dip immedity, and the reason is 151 00:08:16,520 --> 00:08:18,840 Speaker 3: that you have that embedded d eye power in portfolios 152 00:08:18,840 --> 00:08:21,680 Speaker 3: that is there ready to be deployed as soon as 153 00:08:21,720 --> 00:08:24,520 Speaker 3: you have these sort of temporary episodes of lightning. 154 00:08:24,600 --> 00:08:26,720 Speaker 2: Got you? I'll let James jump into just one second. 155 00:08:26,760 --> 00:08:29,880 Speaker 2: But if you're basically arguing that we're in just a 156 00:08:30,840 --> 00:08:36,560 Speaker 2: carry environment with low volatility, it argues you move down 157 00:08:36,600 --> 00:08:40,200 Speaker 2: the credit curve. I guess that's your preference for left 158 00:08:40,240 --> 00:08:44,640 Speaker 2: loans over high yield. But where does everyone go wrong? 159 00:08:44,960 --> 00:08:49,920 Speaker 2: Like if it seems like that's obviously consensus, what has 160 00:08:50,000 --> 00:08:53,480 Speaker 2: to happen? Like what what are those those tails? What 161 00:08:53,559 --> 00:08:55,280 Speaker 2: are the black swans? 162 00:08:55,360 --> 00:08:55,400 Speaker 3: Like? 163 00:08:55,800 --> 00:08:55,959 Speaker 2: When? 164 00:08:56,000 --> 00:08:57,680 Speaker 3: When? When? When? When? 165 00:08:57,720 --> 00:09:00,679 Speaker 2: You when you go to bed at night and you're 166 00:09:00,880 --> 00:09:04,000 Speaker 2: where could I have messed this one up? That's what 167 00:09:04,040 --> 00:09:05,439 Speaker 2: I think we're all sort of looking for we see 168 00:09:05,440 --> 00:09:07,199 Speaker 2: these headlines, we see one or two days of all, 169 00:09:07,320 --> 00:09:09,400 Speaker 2: but then it sort of goes away like are we 170 00:09:09,520 --> 00:09:11,920 Speaker 2: just so strong? Are technicals and fundamentals so strong that 171 00:09:12,200 --> 00:09:14,640 Speaker 2: just really realistically doesn't happen. 172 00:09:14,760 --> 00:09:17,160 Speaker 3: So I wouldn't get complacent, obviously, but I think those 173 00:09:17,200 --> 00:09:21,240 Speaker 3: headlines tell you something, which is the distribution of risks 174 00:09:21,679 --> 00:09:23,840 Speaker 3: is a lot more two sided that many have thought 175 00:09:23,920 --> 00:09:27,000 Speaker 3: going into the year. And so yes, we do have 176 00:09:27,080 --> 00:09:30,160 Speaker 3: faith in sort of a scary view and force cognizant 177 00:09:30,200 --> 00:09:32,560 Speaker 3: of the fact that valuations are a lot more expensive, 178 00:09:32,559 --> 00:09:35,360 Speaker 3: spreads are tighter. So whatever excess return to treasure is 179 00:09:35,360 --> 00:09:38,480 Speaker 3: you got to generate, it will feel mechanically lower than 180 00:09:38,800 --> 00:09:41,840 Speaker 3: twenty twenty four, and for sure twenty twenty three. But 181 00:09:41,920 --> 00:09:45,560 Speaker 3: we'll also be advocating to spend money on hedges. You know, 182 00:09:45,800 --> 00:09:48,520 Speaker 3: just take look at that left tail of the distribution, 183 00:09:48,920 --> 00:09:52,320 Speaker 3: the non unknowns, the unknown unknowns, the things that can 184 00:09:52,360 --> 00:09:54,880 Speaker 3: sort of take you off guard a little bit. But 185 00:09:55,120 --> 00:09:58,120 Speaker 3: you know, people can plain all the time about tight spreads, 186 00:09:58,280 --> 00:10:01,640 Speaker 3: but vall is very low. Actually, the cost of hedging 187 00:10:01,840 --> 00:10:05,480 Speaker 3: is the lowest it's been in probably a very fantastic point, 188 00:10:05,679 --> 00:10:08,080 Speaker 3: use that to your advanders, spend spend some money on 189 00:10:08,160 --> 00:10:11,400 Speaker 3: hedges and wait for better days, you know, wait for 190 00:10:11,480 --> 00:10:13,960 Speaker 3: that valuation reset and kind of revisit the pieces. 191 00:10:14,000 --> 00:10:15,559 Speaker 2: What products are you using for those? 192 00:10:15,840 --> 00:10:19,040 Speaker 3: Ce the xig cd X high yield, but macro products 193 00:10:19,080 --> 00:10:24,160 Speaker 3: in general very liquid, very liquid, I mean dogfs too, 194 00:10:24,200 --> 00:10:26,720 Speaker 3: although there's a rates component into that. But yeah, there's 195 00:10:26,760 --> 00:10:30,880 Speaker 3: a wide range of hedging solutions actually that are available 196 00:10:30,880 --> 00:10:31,559 Speaker 3: to investors. 197 00:10:31,640 --> 00:10:32,000 Speaker 2: Gotcha. 198 00:10:32,480 --> 00:10:34,200 Speaker 1: The low hanging fruit for a lot of our guests 199 00:10:34,200 --> 00:10:36,440 Speaker 1: at the moment is the private side of the market. 200 00:10:36,960 --> 00:10:39,040 Speaker 1: Everyone loves to talk about private debt and a lot 201 00:10:39,040 --> 00:10:41,040 Speaker 1: of people still see a lot of relative value there 202 00:10:41,120 --> 00:10:43,199 Speaker 1: versus public I know it's kind of hard to do 203 00:10:43,240 --> 00:10:46,120 Speaker 1: apples to apples comparisons between the two. But what's your 204 00:10:46,200 --> 00:10:49,480 Speaker 1: view right now of the value that you know people 205 00:10:49,520 --> 00:10:52,000 Speaker 1: are talking about in private and how does it compare. 206 00:10:52,000 --> 00:10:54,640 Speaker 3: Well, it depends what parts of private credit are we 207 00:10:54,679 --> 00:10:57,000 Speaker 3: talking about, I mean, to your point, you know, people 208 00:10:57,280 --> 00:11:00,480 Speaker 3: generally think of relative value comparisons in turn a direct 209 00:11:00,559 --> 00:11:04,320 Speaker 3: lending versus broadlystnigated loan market or the high yelt bond market, 210 00:11:04,920 --> 00:11:08,000 Speaker 3: if you take you know, proxies for private credit like 211 00:11:08,120 --> 00:11:11,880 Speaker 3: BDCs or mental market clos They will tell you that 212 00:11:11,880 --> 00:11:14,760 Speaker 3: that excess premium that you're getting by shifting from public 213 00:11:14,800 --> 00:11:17,520 Speaker 3: to private is at the very tight end of the 214 00:11:17,640 --> 00:11:22,000 Speaker 3: historical range. And yet if you look at capital formation 215 00:11:22,120 --> 00:11:25,320 Speaker 3: on the private side, I think twenty twenty four is 216 00:11:25,640 --> 00:11:28,400 Speaker 3: actually going to end very close to the record that 217 00:11:28,440 --> 00:11:30,320 Speaker 3: we had in twenty twenty one. So how do you 218 00:11:30,360 --> 00:11:33,240 Speaker 3: reconcile the two? You know, how come more capital is 219 00:11:33,240 --> 00:11:36,520 Speaker 3: being deployed into you know, private credit even though that 220 00:11:36,559 --> 00:11:39,640 Speaker 3: excess premium has actually compressed. I think part of the 221 00:11:39,679 --> 00:11:45,280 Speaker 3: reason is that most you know, investors don't look at 222 00:11:45,280 --> 00:11:47,720 Speaker 3: the excess premium only there's something else there's, you know, 223 00:11:48,400 --> 00:11:50,600 Speaker 3: and that is really the ability of private credit to 224 00:11:50,640 --> 00:11:54,840 Speaker 3: deliver better risk adjusted returns or better sharp ratios relative 225 00:11:54,880 --> 00:11:57,040 Speaker 3: to public credit. And I think that's the biggest driver 226 00:11:57,200 --> 00:12:00,640 Speaker 3: of investor demand because and the REA and I think 227 00:12:00,640 --> 00:12:03,680 Speaker 3: that is that if you look at the ownership structure 228 00:12:03,760 --> 00:12:06,480 Speaker 3: of private credit, like who owns you know, who's the 229 00:12:06,480 --> 00:12:12,160 Speaker 3: the ultimate user of private credit? It's generally liquidity agnostic investors, 230 00:12:12,440 --> 00:12:17,960 Speaker 3: insurance companies, endowments, family offices, pension plans. Investors that don't 231 00:12:18,040 --> 00:12:21,800 Speaker 3: necessarily need the liquidity that you know, public markets you 232 00:12:21,840 --> 00:12:25,520 Speaker 3: know give them. And so we can debate on the 233 00:12:25,559 --> 00:12:29,040 Speaker 3: calculation of sharp rations public versus private, the fact that 234 00:12:29,080 --> 00:12:32,120 Speaker 3: you know there's no more tomorrow or there's only quarterly 235 00:12:32,200 --> 00:12:34,719 Speaker 3: marks on the public on the private side relative to 236 00:12:34,760 --> 00:12:38,120 Speaker 3: the public side. Those are all, you know, legitimate arguments. 237 00:12:38,480 --> 00:12:40,920 Speaker 3: But at the end of the day, what those investors 238 00:12:40,920 --> 00:12:43,920 Speaker 3: are trying to solve for is, you know, the best 239 00:12:43,920 --> 00:12:46,520 Speaker 3: sharp and the fact is, you can go back ten 240 00:12:46,600 --> 00:12:50,160 Speaker 3: fifteen years, private credit delivers better sharp rations than than 241 00:12:50,559 --> 00:12:54,280 Speaker 3: than public credit. That's just the story. So that's number one. 242 00:12:54,559 --> 00:12:57,120 Speaker 3: I think the other insting shift is really the change 243 00:12:57,200 --> 00:13:00,560 Speaker 3: in the structure of private credit, where we're seeing continued 244 00:13:00,640 --> 00:13:04,040 Speaker 3: overlap between private and public credit. But you go back 245 00:13:04,240 --> 00:13:06,920 Speaker 3: only five years ago and the bread and butter of 246 00:13:06,960 --> 00:13:09,520 Speaker 3: direct lending was really middle market companies. I mean, the 247 00:13:10,040 --> 00:13:13,280 Speaker 3: birth of the asset class was primarily driven by the 248 00:13:13,320 --> 00:13:16,680 Speaker 3: fact that the banks actually can't do leverage lending anymore. 249 00:13:16,960 --> 00:13:19,160 Speaker 3: But that has changed quite a lot. Actually the last 250 00:13:19,160 --> 00:13:22,400 Speaker 3: five years. What we've seen is a toronative asset managers 251 00:13:22,480 --> 00:13:27,240 Speaker 3: increasingly I don't like the word competing, but providing the 252 00:13:27,360 --> 00:13:30,840 Speaker 3: type of capital solutions that actually the bloadly syndicated loan 253 00:13:30,880 --> 00:13:34,120 Speaker 3: market or the high bond market would provide that overlap. 254 00:13:34,160 --> 00:13:36,480 Speaker 3: I think will continue to grow in my view, not 255 00:13:36,679 --> 00:13:41,520 Speaker 3: least because capital is being concentrated among larger firms and 256 00:13:41,600 --> 00:13:45,240 Speaker 3: so the depth of financing of direct lending funds, you know, 257 00:13:45,320 --> 00:13:47,880 Speaker 3: has improved and it will remain that way. 258 00:13:48,120 --> 00:13:50,880 Speaker 2: Does it feel like private credit could end up being 259 00:13:50,880 --> 00:13:54,280 Speaker 2: the first domino in a market falling down that it's 260 00:13:54,320 --> 00:13:58,280 Speaker 2: a little opaque, We're not really sure what's behind the curtain, 261 00:13:58,800 --> 00:14:01,880 Speaker 2: and you know, maybe there's some sort of like cre 262 00:14:02,120 --> 00:14:05,240 Speaker 2: exposure or even in the world I mentioned deepseek before. 263 00:14:05,720 --> 00:14:08,160 Speaker 2: You know, is there so much money out there that's 264 00:14:08,200 --> 00:14:11,720 Speaker 2: been propping up data centers that all of a sudden, 265 00:14:12,240 --> 00:14:16,760 Speaker 2: one shoe falls and then whoa lo and behold, it's 266 00:14:16,880 --> 00:14:20,200 Speaker 2: not as strong as we thought. Our private credit BDC 267 00:14:20,280 --> 00:14:23,720 Speaker 2: analyst Dave Havens talks about that space like I talk 268 00:14:23,760 --> 00:14:29,640 Speaker 2: about double A rated Amazon, Alphabet Apple, and it's just 269 00:14:29,720 --> 00:14:31,960 Speaker 2: not the same. So I just I'm just wondering, like, 270 00:14:32,160 --> 00:14:34,360 Speaker 2: are we is anyone missing anything here or is it 271 00:14:34,480 --> 00:14:35,720 Speaker 2: just really as good. 272 00:14:35,520 --> 00:14:39,040 Speaker 3: As he looks? Great points, but I think it's important 273 00:14:39,080 --> 00:14:43,560 Speaker 3: to frame the risks, Like if we're talking about garden 274 00:14:43,720 --> 00:14:49,040 Speaker 3: variety default cycle type of risks, then absolutely, I think 275 00:14:49,080 --> 00:14:52,200 Speaker 3: private credit, just like broadly stigated loan market or the 276 00:14:52,280 --> 00:14:55,680 Speaker 3: high end bond market, will at some point experience a 277 00:14:55,720 --> 00:14:59,160 Speaker 3: full blown default cycle. And I think we'll test a 278 00:14:59,240 --> 00:15:01,720 Speaker 3: number of things, the ability of managers to kind of 279 00:15:02,120 --> 00:15:05,840 Speaker 3: you know, work through a wave of the faults, et cetera. 280 00:15:05,920 --> 00:15:08,160 Speaker 3: So that will happen at some point, and my best 281 00:15:08,200 --> 00:15:10,720 Speaker 3: guess is that it will happen when the business cycle 282 00:15:10,760 --> 00:15:12,640 Speaker 3: its self inflex the fact that you can go back 283 00:15:12,720 --> 00:15:16,080 Speaker 3: forty years, you know, the faults generally increase when the 284 00:15:16,120 --> 00:15:19,200 Speaker 3: economy goes into recession. There's a handful of exceptions. You know, 285 00:15:19,400 --> 00:15:22,320 Speaker 3: twenty fourteen fifteen is a good one. You had a 286 00:15:22,320 --> 00:15:25,200 Speaker 3: big sector story, But in general it takes a recession 287 00:15:25,240 --> 00:15:27,560 Speaker 3: to test that, and we will test it for private credit. Now, 288 00:15:28,120 --> 00:15:31,800 Speaker 3: private credit as a threat to financial stability, which is 289 00:15:31,840 --> 00:15:34,440 Speaker 3: a concern that you hear all the time. I have 290 00:15:34,600 --> 00:15:37,800 Speaker 3: been pushing back against that quite a lot, because if 291 00:15:37,840 --> 00:15:41,160 Speaker 3: you think about the two channels that can make losses 292 00:15:41,200 --> 00:15:44,440 Speaker 3: on any portfolio, whether it's a credit portfolio or something else, 293 00:15:45,400 --> 00:15:49,080 Speaker 3: make those losses painful to the system, it's leverage or 294 00:15:49,120 --> 00:15:52,120 Speaker 3: maturity mismatches. And if you look at direct lending, you 295 00:15:52,160 --> 00:15:55,880 Speaker 3: don't see any I mean, I'm sure you're calling your discoverage. Yeah, 296 00:15:55,880 --> 00:15:59,480 Speaker 3: who covers BDCs told you that there are legal limits 297 00:15:59,520 --> 00:16:01,520 Speaker 3: on leverage one and a half to two x, and 298 00:16:01,600 --> 00:16:05,160 Speaker 3: actually most BDCs never exceed that, and so it's not 299 00:16:05,200 --> 00:16:08,440 Speaker 3: a levered asset loss. The LPs or the investors are 300 00:16:08,440 --> 00:16:10,520 Speaker 3: not leveraged. So I do struggle a little bit to 301 00:16:10,560 --> 00:16:14,840 Speaker 3: see a channel that amplifies losses. And then and then 302 00:16:14,920 --> 00:16:18,520 Speaker 3: kind of, you know, make them a catalyst for you know, 303 00:16:18,600 --> 00:16:21,160 Speaker 3: some stress, and either in the financial system or in 304 00:16:21,160 --> 00:16:24,000 Speaker 3: the banking system, it's just not there to me. If anything, 305 00:16:24,040 --> 00:16:26,040 Speaker 3: it's as plain venolla as it can get. You got 306 00:16:26,080 --> 00:16:29,320 Speaker 3: the LP, you got the GP, and then the borrowers 307 00:16:29,360 --> 00:16:31,520 Speaker 3: in the middle, but none of them are levered other 308 00:16:31,560 --> 00:16:34,600 Speaker 3: than the borrower. And then the asset class itself is 309 00:16:34,640 --> 00:16:36,680 Speaker 3: also too small. We're going to have to put things 310 00:16:36,680 --> 00:16:39,520 Speaker 3: in context a little bit, because if you add up 311 00:16:39,640 --> 00:16:42,760 Speaker 3: all the subcategories of private credit, you get one point 312 00:16:42,760 --> 00:16:46,440 Speaker 3: seven trillion, maybe two trillion, of which a good thread 313 00:16:46,520 --> 00:16:49,200 Speaker 3: is actually dry powder. So the capital that is deployed 314 00:16:49,240 --> 00:16:52,240 Speaker 3: is actually much less than that. Okay, well, let's suppose 315 00:16:52,280 --> 00:16:55,280 Speaker 3: you have an annual loss rate of ten percent that 316 00:16:55,400 --> 00:16:58,400 Speaker 3: is non leveraged. Those are no you know, those losses 317 00:16:58,440 --> 00:17:00,320 Speaker 3: are not leverage, and so I don't think they will 318 00:17:00,320 --> 00:17:01,520 Speaker 3: trigger I mean the S and P five and it 319 00:17:01,640 --> 00:17:04,200 Speaker 3: loses that every day and it doesn't do anything to 320 00:17:04,760 --> 00:17:06,480 Speaker 3: the system, and so I think we have to keep 321 00:17:06,520 --> 00:17:10,200 Speaker 3: that in context. It would have been problematic if there 322 00:17:10,240 --> 00:17:12,600 Speaker 3: was a lot more leverage deployed behind it, which was 323 00:17:12,680 --> 00:17:14,879 Speaker 3: kind of the story in the run up to the 324 00:17:14,880 --> 00:17:16,000 Speaker 3: global financial crisis. 325 00:17:16,000 --> 00:17:18,480 Speaker 1: Got you interested in what you were saying about the maturity, 326 00:17:18,480 --> 00:17:20,920 Speaker 1: You will love the You know, we have spent a 327 00:17:20,960 --> 00:17:24,199 Speaker 1: lot of time worrying about it on this show. Companies 328 00:17:24,240 --> 00:17:26,080 Speaker 1: did borrow a lot of money when rates were zero, 329 00:17:26,560 --> 00:17:29,119 Speaker 1: and you know, there is a there is a wall 330 00:17:30,119 --> 00:17:33,440 Speaker 1: of high yield and leverage loans coming up. Funding costs 331 00:17:33,440 --> 00:17:36,159 Speaker 1: is substantially higher than where they were triple in some cases. 332 00:17:36,359 --> 00:17:38,040 Speaker 1: So why why shouldn't we worry about it? 333 00:17:38,160 --> 00:17:42,040 Speaker 3: I think there's a discussion about aggregate levels and a 334 00:17:42,080 --> 00:17:46,720 Speaker 3: discussion about idiosyncratic situation. There's no question that there's multiple 335 00:17:46,760 --> 00:17:50,240 Speaker 3: idiot psychotic syncratic situations particularly in Europe, by the way, 336 00:17:50,520 --> 00:17:54,399 Speaker 3: where the economics of refinancing isn't compelling. Basically, if you 337 00:17:54,560 --> 00:17:57,959 Speaker 3: refinance existing debt today, you'd have to point sometimes triple 338 00:17:58,000 --> 00:18:01,080 Speaker 3: the cost of that debt. But in agrig I think 339 00:18:01,160 --> 00:18:04,240 Speaker 3: we've made some pretty decent progress actually the last year 340 00:18:04,280 --> 00:18:06,480 Speaker 3: and a half. But I'll give you a couple of stats. 341 00:18:06,720 --> 00:18:08,400 Speaker 3: If you look at the share of the high bond 342 00:18:08,400 --> 00:18:10,960 Speaker 3: market that is maturing over the next two years, it's 343 00:18:11,040 --> 00:18:13,520 Speaker 3: eight percent of the total outstanding, and so there's no 344 00:18:13,640 --> 00:18:17,119 Speaker 3: issue in terms of the quantity for the lack of 345 00:18:17,160 --> 00:18:19,159 Speaker 3: the better word, the quantity of credit that needs to 346 00:18:19,160 --> 00:18:21,720 Speaker 3: be rolled over over the next two years. Now, the 347 00:18:21,800 --> 00:18:25,480 Speaker 3: second stat that I would give is your marginal cost 348 00:18:25,520 --> 00:18:28,679 Speaker 3: of refinancing. You know that that extra cost that you 349 00:18:28,760 --> 00:18:32,040 Speaker 3: pay to replace old debt that you issued back in 350 00:18:32,080 --> 00:18:35,320 Speaker 3: twenty twenty, twenty one, twenty two with new debt today, 351 00:18:35,680 --> 00:18:38,120 Speaker 3: that has also compressed dramatic. I mean, the flip side 352 00:18:38,119 --> 00:18:40,560 Speaker 3: of tight spreads is that it gives a lot of 353 00:18:41,240 --> 00:18:45,880 Speaker 3: flexibility to borrowers. But in aggregate that cost is around 354 00:18:45,880 --> 00:18:48,359 Speaker 3: a point and a half today, It's not nothing, But 355 00:18:49,040 --> 00:18:52,119 Speaker 3: if you were to refinance that ten percent, that is 356 00:18:52,119 --> 00:18:54,480 Speaker 3: coming due in the next two years. That means that 357 00:18:54,520 --> 00:18:56,480 Speaker 3: you pay in ten percent times a point and a half, 358 00:18:56,520 --> 00:19:00,680 Speaker 3: which is fifteen basis points of extra interest expense. When 359 00:19:00,720 --> 00:19:04,159 Speaker 3: you scale that by the average coupon, it's a couple 360 00:19:04,160 --> 00:19:08,320 Speaker 3: of points of increase in interest expense on a percentage basis, 361 00:19:08,359 --> 00:19:10,800 Speaker 3: And so you still have to pay more, but I 362 00:19:10,800 --> 00:19:14,359 Speaker 3: think you've reached a stage in which that marginal cost 363 00:19:14,359 --> 00:19:18,280 Speaker 3: of refinancing is now a lot more easily absorbable by 364 00:19:18,320 --> 00:19:21,760 Speaker 3: earnings growth, because there's assets, there's liabilities. Yes, you pay more, 365 00:19:21,880 --> 00:19:24,119 Speaker 3: but you're also growing your assets, you're growing your earning. 366 00:19:24,160 --> 00:19:27,760 Speaker 3: So in aggregate, I would say the transition to higher 367 00:19:27,760 --> 00:19:29,840 Speaker 3: funding costs, which is sort of a catchy sentence that 368 00:19:29,880 --> 00:19:32,840 Speaker 3: everyone is using, I think that transition has been completed, 369 00:19:33,720 --> 00:19:36,520 Speaker 3: except for maybe the lower end of the quality spectrum 370 00:19:36,560 --> 00:19:39,400 Speaker 3: in Europe, where refinancing costs is still way too high. 371 00:19:39,440 --> 00:19:41,920 Speaker 3: And I think that means that you need to address 372 00:19:41,960 --> 00:19:46,159 Speaker 3: basically refinancing needs via restructurings in the faults. 373 00:19:45,880 --> 00:19:47,480 Speaker 1: And those companies not just in Europe but in the 374 00:19:47,560 --> 00:19:50,720 Speaker 1: US and elsewhere are also doing a so called liability 375 00:19:50,720 --> 00:19:54,800 Speaker 1: management exercises. You know you mentioned you got to add 376 00:19:54,920 --> 00:19:56,879 Speaker 1: sort of shale anden list to your list of skills 377 00:19:56,920 --> 00:19:59,159 Speaker 1: in twenty sixteen, But do you have to add legal 378 00:20:00,000 --> 00:20:02,200 Speaker 1: skills now because it's so complicated. It's you know that 379 00:20:02,320 --> 00:20:05,760 Speaker 1: the documents, the documents are so difficult to understand, and 380 00:20:05,840 --> 00:20:07,919 Speaker 1: everyone's getting, you know, in trouble with that. 381 00:20:08,480 --> 00:20:11,960 Speaker 3: Yeah, yeah, I mean, look, I mean you're right, lemies 382 00:20:12,119 --> 00:20:14,600 Speaker 3: or I call them distressing changes, because I think that's 383 00:20:14,640 --> 00:20:16,879 Speaker 3: a better way to describe it. But you know, that 384 00:20:17,000 --> 00:20:19,639 Speaker 3: has accounted for the bulk of the faults, and it's interesting, 385 00:20:20,160 --> 00:20:22,840 Speaker 3: it's been one of the reasons why people disagree with 386 00:20:22,920 --> 00:20:25,800 Speaker 3: respect to the actual level of the faults, because some 387 00:20:25,800 --> 00:20:28,320 Speaker 3: people include them on the don't and so. But the 388 00:20:28,320 --> 00:20:30,920 Speaker 3: bottom line, if you take the broadly saying you gated 389 00:20:30,960 --> 00:20:35,040 Speaker 3: loan market and include distress exchanges, we actually and you 390 00:20:35,080 --> 00:20:38,040 Speaker 3: look at things on a twelve month trailing basis, we're 391 00:20:38,119 --> 00:20:41,280 Speaker 3: above eight percent, which is a pretty elevated level. Is 392 00:20:41,280 --> 00:20:44,240 Speaker 3: that for high bones, that's for loans, for bonds, it's 393 00:20:44,240 --> 00:20:46,200 Speaker 3: been it's been a lot lower than that. And the 394 00:20:46,240 --> 00:20:49,600 Speaker 3: reason is quite simple. The liability are floating. If you're 395 00:20:49,640 --> 00:20:51,480 Speaker 3: you know, in the loan market, they're fixed rate on 396 00:20:51,760 --> 00:20:54,600 Speaker 3: the bond side, and so the transition to a higher 397 00:20:54,600 --> 00:20:57,560 Speaker 3: cost of funding environment has been a lot tougher. Uh, 398 00:20:57,680 --> 00:21:00,000 Speaker 3: you know, for those liabilities that are that are flowed. 399 00:21:01,680 --> 00:21:04,080 Speaker 3: The other dynamic I think that is very important for 400 00:21:04,119 --> 00:21:07,639 Speaker 3: those lmes is that they've been entirely concentrated amongst small 401 00:21:07,680 --> 00:21:10,280 Speaker 3: issuers too, so size mattered quite a lot. I mean, 402 00:21:11,240 --> 00:21:13,919 Speaker 3: it is true that this has been the most aggressive 403 00:21:14,280 --> 00:21:16,760 Speaker 3: or it was the most aggressive and the most front 404 00:21:16,800 --> 00:21:19,240 Speaker 3: loaded hiking cycle since pretty much the start of the 405 00:21:19,240 --> 00:21:24,679 Speaker 3: Great Moderation, but it weighed heavily on small companies. And 406 00:21:24,760 --> 00:21:27,200 Speaker 3: if you looked at the Dotter weighted the faught rate 407 00:21:27,280 --> 00:21:29,240 Speaker 3: versus the issue weighted the fault rate, you get a 408 00:21:29,320 --> 00:21:32,240 Speaker 3: dramatically different answer. Actually, the dotterweight of default rate has 409 00:21:32,280 --> 00:21:35,000 Speaker 3: been remarkably benign for the last two years. And so, 410 00:21:35,800 --> 00:21:37,800 Speaker 3: you know, I get people sometimes asking me like, how 411 00:21:37,800 --> 00:21:40,960 Speaker 3: come high yield spreads are at sixty or two seventy 412 00:21:41,000 --> 00:21:43,320 Speaker 3: and then the headline the fault rate is at six 413 00:21:43,440 --> 00:21:45,960 Speaker 3: or eight percent, And I'm like, there's a reason for 414 00:21:46,000 --> 00:21:49,080 Speaker 3: that is because those defaults didn't matter that much for 415 00:21:49,520 --> 00:21:52,199 Speaker 3: the index. You know, they weight in the indexes is 416 00:21:52,320 --> 00:21:55,720 Speaker 3: so small that they haven't really been a drag on performance. 417 00:21:56,160 --> 00:21:58,480 Speaker 2: Where do you think we need all in yields to 418 00:21:58,520 --> 00:22:01,680 Speaker 2: be to see a significant an uptick in M and 419 00:22:01,760 --> 00:22:06,679 Speaker 2: A or leverage transactions? You would think that with so 420 00:22:06,840 --> 00:22:10,080 Speaker 2: much capital available, we would have already seen more. 421 00:22:10,720 --> 00:22:14,439 Speaker 3: I think there's two dynamics up, So I would distinguish 422 00:22:14,520 --> 00:22:17,320 Speaker 3: IG from IG from high yield. Sorry, I think in 423 00:22:17,440 --> 00:22:21,760 Speaker 3: IG were there already. I think most CFOs and corporate 424 00:22:21,800 --> 00:22:25,160 Speaker 3: treasurers have sort of re anchored their long run expectations 425 00:22:25,200 --> 00:22:28,000 Speaker 3: for the level of tenure yields. But you know, a 426 00:22:28,080 --> 00:22:29,800 Speaker 3: year and a half ago, four and a half cent 427 00:22:29,840 --> 00:22:32,640 Speaker 3: on tenure would have been viewed as problematic. It's not anymore. 428 00:22:32,640 --> 00:22:35,720 Speaker 3: I think everyone has a much better understanding that, you 429 00:22:35,760 --> 00:22:38,320 Speaker 3: know what, it's actually that period from twenty ten to 430 00:22:38,320 --> 00:22:41,960 Speaker 3: twenty nineteen that was the anomaly. Were corrected that anomaly, 431 00:22:42,080 --> 00:22:43,960 Speaker 3: and we're kind of back to levels that are more 432 00:22:44,000 --> 00:22:45,840 Speaker 3: on line with the reality of the cycle. So I 433 00:22:45,840 --> 00:22:49,520 Speaker 3: think there's broader acceptance of funding costs. And then I 434 00:22:49,520 --> 00:22:52,280 Speaker 3: think the other big shift is CEO confidence. I mean, 435 00:22:52,280 --> 00:22:55,680 Speaker 3: if you look at confidence, it basically rebounded quite sharply, 436 00:22:56,000 --> 00:22:59,399 Speaker 3: and a lot of that is a reflection of just 437 00:22:59,440 --> 00:23:02,480 Speaker 3: a broader you know acknowledgment that this is a soft 438 00:23:02,560 --> 00:23:05,000 Speaker 3: landing and that you know, this is not sort of 439 00:23:05,040 --> 00:23:07,400 Speaker 3: your usual business cycle a little bit. So I think 440 00:23:07,560 --> 00:23:10,000 Speaker 3: you will see more of it, you know, in twenty 441 00:23:10,040 --> 00:23:12,960 Speaker 3: twenty five for sure. Now the question for US and 442 00:23:13,080 --> 00:23:16,560 Speaker 3: credit is what does that mean for bond holders? Does 443 00:23:16,560 --> 00:23:19,040 Speaker 3: that bring new risks? Because typically you know, if you 444 00:23:19,119 --> 00:23:22,720 Speaker 3: see you know, a reacceleration in M and A activities, 445 00:23:22,800 --> 00:23:25,880 Speaker 3: some of that is funded into credit markets. I think 446 00:23:25,920 --> 00:23:28,400 Speaker 3: for the high end of the quality spectrum in IG 447 00:23:28,720 --> 00:23:31,800 Speaker 3: where you have debt capacity, sure you know you'll see 448 00:23:31,880 --> 00:23:34,400 Speaker 3: more you know, M and A related debt this year, 449 00:23:34,520 --> 00:23:38,119 Speaker 3: certainly relative to last year, but also you know, you 450 00:23:38,160 --> 00:23:41,320 Speaker 3: know twenty twenty three, but only I think in the 451 00:23:41,400 --> 00:23:43,639 Speaker 3: high in the high end of the quality spectrum. I 452 00:23:43,640 --> 00:23:46,720 Speaker 3: think for the triple B space, which is still roughly 453 00:23:46,760 --> 00:23:50,840 Speaker 3: half of IGH, the incentives are to continue to act 454 00:23:50,880 --> 00:23:52,000 Speaker 3: a bit more conservatively. 455 00:23:52,119 --> 00:23:55,760 Speaker 2: So if I could try to squeeze some details out 456 00:23:55,760 --> 00:23:59,160 Speaker 2: of you, which sectors do you think offer the best 457 00:23:59,240 --> 00:24:03,680 Speaker 2: value and the least value and are those calls more 458 00:24:03,840 --> 00:24:06,520 Speaker 2: of you know, near term we're playing off of tariffs, 459 00:24:06,880 --> 00:24:10,560 Speaker 2: or they do they have longer term sort of trends 460 00:24:10,600 --> 00:24:10,920 Speaker 2: to them. 461 00:24:11,440 --> 00:24:14,480 Speaker 3: So before that, one big caveat which is we talked 462 00:24:14,480 --> 00:24:18,040 Speaker 3: a lot about valuations, We talked about dispersion. I think 463 00:24:18,080 --> 00:24:20,400 Speaker 3: the other challenge that a lot of people are facing 464 00:24:20,680 --> 00:24:24,639 Speaker 3: is that the left tail went from over sold about 465 00:24:24,640 --> 00:24:27,159 Speaker 3: a year and a half ago to overbought today. So 466 00:24:27,200 --> 00:24:28,480 Speaker 3: I'll give you two into three. 467 00:24:28,280 --> 00:24:30,040 Speaker 1: Before you too, I just want you to explain to 468 00:24:30,040 --> 00:24:32,080 Speaker 1: our listeners what is left tail? What do you mean 469 00:24:32,080 --> 00:24:32,320 Speaker 1: by that? 470 00:24:32,400 --> 00:24:35,080 Speaker 3: Yeah, it's basically the price or the premium that you 471 00:24:35,200 --> 00:24:38,080 Speaker 3: demand against a state of the world in which things 472 00:24:38,119 --> 00:24:40,800 Speaker 3: go horribly wrong. And so I'll give you two examples. 473 00:24:41,040 --> 00:24:44,280 Speaker 3: You know, the aftermath of the regional banking crisis in 474 00:24:44,400 --> 00:24:47,359 Speaker 3: March of twenty twenty three, the big concern was that 475 00:24:47,560 --> 00:24:51,159 Speaker 3: this would morph into a full blow financial crisis, and 476 00:24:51,200 --> 00:24:54,200 Speaker 3: that basically losses in the cre market would you know, 477 00:24:55,040 --> 00:24:57,800 Speaker 3: put bank's balance sheets under a lot of pressure. As 478 00:24:57,800 --> 00:24:59,920 Speaker 3: a result of that, banks traded at a pretty sick 479 00:25:00,440 --> 00:25:03,800 Speaker 3: discount relative to non financials. That discount has gone today, 480 00:25:03,880 --> 00:25:07,280 Speaker 3: and in fact, banks had a terrific twenty twenty four 481 00:25:07,760 --> 00:25:10,840 Speaker 3: and that left dai of risk premium is gone. One 482 00:25:10,880 --> 00:25:13,320 Speaker 3: other example, I would give you triple c's. You know, 483 00:25:13,760 --> 00:25:17,920 Speaker 3: up until October of twenty twenty four, the triple C 484 00:25:18,080 --> 00:25:21,359 Speaker 3: market was actually offering you a pretty decent premium. Why 485 00:25:21,760 --> 00:25:25,159 Speaker 3: because there was this widespread view among you know, a 486 00:25:25,160 --> 00:25:28,520 Speaker 3: lot of market participants that monetary policy would kind of 487 00:25:28,560 --> 00:25:30,800 Speaker 3: act with a lag a little bit, and that lag 488 00:25:30,920 --> 00:25:33,200 Speaker 3: is like a year to a year and a half. Actually, 489 00:25:33,240 --> 00:25:35,479 Speaker 3: we realized that that lag is a lot shorter, and 490 00:25:35,560 --> 00:25:38,359 Speaker 3: so you've had a big compression of premiums. So the 491 00:25:38,440 --> 00:25:41,760 Speaker 3: setup is a lot more challenging, not just at the 492 00:25:41,760 --> 00:25:45,720 Speaker 3: index level, but also you know, also thematically. So that 493 00:25:45,800 --> 00:25:47,920 Speaker 3: was a long intro, but I'll give you the answer. 494 00:25:48,080 --> 00:25:50,879 Speaker 3: So what do I like? Look, if you stick to 495 00:25:50,920 --> 00:25:54,080 Speaker 3: the high quality parts of the market, we like agency 496 00:25:54,119 --> 00:25:59,080 Speaker 3: mortgages more than IG. Now, it's what I find remarkable 497 00:25:59,119 --> 00:26:02,000 Speaker 3: with mortgages is that if you look at, you know, 498 00:26:02,119 --> 00:26:04,879 Speaker 3: the excess spread that you're getting in agency mortgage is 499 00:26:04,920 --> 00:26:08,679 Speaker 3: relative to IG, it's about forty to forty five basis points, 500 00:26:08,680 --> 00:26:12,080 Speaker 3: which is absolutely remarkable if you take into account the 501 00:26:12,080 --> 00:26:15,239 Speaker 3: fact that agency mortgages have no credit risk, and so 502 00:26:15,320 --> 00:26:17,640 Speaker 3: you have an asset class that has zero credit risk, 503 00:26:17,680 --> 00:26:20,240 Speaker 3: and yet it's paying you forty to forty five basis 504 00:26:20,240 --> 00:26:22,320 Speaker 3: points more on than IG. Now, of course, there are 505 00:26:22,440 --> 00:26:24,680 Speaker 3: reasons why that's the case. I think the biggest one 506 00:26:24,720 --> 00:26:28,480 Speaker 3: is that mortgages had benefited for many years from a 507 00:26:28,520 --> 00:26:31,919 Speaker 3: generous subsidy VIAQE and the fact that the FED was 508 00:26:31,960 --> 00:26:35,760 Speaker 3: deploying its bowel sheet. So essentially the market lost a large, 509 00:26:35,800 --> 00:26:38,760 Speaker 3: indiscriminate buyer and it's been having a tough time kind 510 00:26:38,800 --> 00:26:41,760 Speaker 3: of replacing that bit and attracting new sources of demand. 511 00:26:42,000 --> 00:26:44,720 Speaker 3: But as a value investor, you should look at that. 512 00:26:44,880 --> 00:26:47,080 Speaker 3: You're better off in my view, if you have like 513 00:26:47,119 --> 00:26:50,119 Speaker 3: a two year horizon or one year horizon investing in mortgages. 514 00:26:50,600 --> 00:26:52,960 Speaker 3: If you go down you know the quality spectrum. Yeah, 515 00:26:53,000 --> 00:26:56,479 Speaker 3: you mentioned loans versus bonds. We like loans because you know, 516 00:26:56,560 --> 00:27:00,760 Speaker 3: there's a bit of excess carry there and you know, 517 00:27:00,800 --> 00:27:03,760 Speaker 3: the supply dynamic or the supply demand dynamic, seems a 518 00:27:03,760 --> 00:27:06,440 Speaker 3: bit more compelling than in the bond market. In fact, 519 00:27:06,520 --> 00:27:08,760 Speaker 3: that's supply and the loan market is negative, so it's 520 00:27:08,760 --> 00:27:11,920 Speaker 3: a market that's shrinking, which is good actually if you're 521 00:27:11,920 --> 00:27:16,760 Speaker 3: trading this stuff on the secondary side. Europe versus US 522 00:27:16,840 --> 00:27:19,000 Speaker 3: we didn't talk about it, but that's also an interesting, 523 00:27:19,119 --> 00:27:23,560 Speaker 3: you know, relative value view. I think it's an understatement 524 00:27:23,560 --> 00:27:26,400 Speaker 3: to say that sentiment visa of Europe has been negative. 525 00:27:27,280 --> 00:27:30,359 Speaker 3: But we have been pushing back against the idea to 526 00:27:30,560 --> 00:27:35,080 Speaker 3: use credits as a proxy to express some kind of 527 00:27:35,080 --> 00:27:39,120 Speaker 3: a US exceptionalism view or US growth at performance view 528 00:27:39,640 --> 00:27:42,879 Speaker 3: for really two reasons. One, you know, European credit is 529 00:27:42,880 --> 00:27:45,840 Speaker 3: actually a lot less cyclical than most people think. It 530 00:27:45,880 --> 00:27:48,600 Speaker 3: doesn't media respond to sort of the EBBZEM flows in 531 00:27:49,160 --> 00:27:52,440 Speaker 3: the business cycle. Number two, the flip side of growth 532 00:27:52,480 --> 00:27:54,800 Speaker 3: weakness is that it gives the ECB more degrees of 533 00:27:54,840 --> 00:27:58,160 Speaker 3: freedom to actually ease and go a little faster than 534 00:27:58,480 --> 00:28:01,240 Speaker 3: the FED and so on, And that it's unclear to 535 00:28:01,320 --> 00:28:05,080 Speaker 3: me that the interaction between growth and policy is that 536 00:28:05,240 --> 00:28:07,320 Speaker 3: better in the US relative to Europe. And then I 537 00:28:07,320 --> 00:28:09,960 Speaker 3: think valuation constraints are also a lot more binding in 538 00:28:10,000 --> 00:28:13,040 Speaker 3: the ustern Europe. So I've always thought the growth divergent 539 00:28:13,160 --> 00:28:17,080 Speaker 3: theme was more of a rates effects story than a 540 00:28:17,119 --> 00:28:17,800 Speaker 3: credit story. 541 00:28:18,200 --> 00:28:22,000 Speaker 1: On mortgages, Any May and Freddie mac could be privatized. 542 00:28:22,119 --> 00:28:23,560 Speaker 1: Does that note make spreads blow out? 543 00:28:24,359 --> 00:28:26,600 Speaker 3: It depends how they are privatized. First of all, the 544 00:28:26,640 --> 00:28:29,960 Speaker 3: path that gets you there is uncertain and sort of 545 00:28:30,040 --> 00:28:33,080 Speaker 3: quite complicated. But let's assume, you know, we're having this 546 00:28:33,160 --> 00:28:38,000 Speaker 3: conversation with with with the gcs sort of standalone private entities, 547 00:28:38,960 --> 00:28:41,960 Speaker 3: if you turn them, you know, into sort of monoligne 548 00:28:43,440 --> 00:28:47,200 Speaker 3: companies that ensure and buy mortgages, and if they are 549 00:28:47,320 --> 00:28:51,120 Speaker 3: properly capitalized, so their cost of funding will probably go 550 00:28:51,280 --> 00:28:53,720 Speaker 3: up and go up by twenty thirty basis points. Some 551 00:28:53,760 --> 00:28:56,760 Speaker 3: of that will be passed on to mortgage investors, but 552 00:28:56,880 --> 00:29:00,320 Speaker 3: we estimate that pass through is probably all let's equal 553 00:29:00,600 --> 00:29:03,600 Speaker 3: emphasis is on all l SQL, uh, you know, is 554 00:29:03,800 --> 00:29:06,480 Speaker 3: around five to seven basis points, so not that much, 555 00:29:06,560 --> 00:29:09,640 Speaker 3: but there's obviously lots of moving parts in there. I 556 00:29:09,640 --> 00:29:11,920 Speaker 3: think the other shift that could happen is that obviously 557 00:29:12,560 --> 00:29:16,479 Speaker 3: even double A spreads move a lot over time, and 558 00:29:16,560 --> 00:29:20,000 Speaker 3: so that could introduce, you know, some some volatility and 559 00:29:20,040 --> 00:29:22,520 Speaker 3: agency mortgage spreads on a FOURD basis. But again there's 560 00:29:22,560 --> 00:29:24,360 Speaker 3: a lot of moving parts here, and I think it's 561 00:29:24,360 --> 00:29:25,760 Speaker 3: still very early. Okay. 562 00:29:25,840 --> 00:29:29,000 Speaker 1: Also, the FED is scaling back to the banks step 563 00:29:29,000 --> 00:29:31,360 Speaker 1: in at this point to prop out that demand. 564 00:29:31,520 --> 00:29:34,280 Speaker 3: Potentially, yes, and in fact, actually if you look at 565 00:29:34,320 --> 00:29:37,520 Speaker 3: bank demand, you know, for agency mortgages, over the last 566 00:29:38,200 --> 00:29:41,320 Speaker 3: three to four months. It's it's back into positive territory 567 00:29:41,320 --> 00:29:43,640 Speaker 3: on a net basis. But banks actually could be that 568 00:29:43,880 --> 00:29:47,440 Speaker 3: marginal source of demand that kind of flips the you know, 569 00:29:47,440 --> 00:29:49,800 Speaker 3: the balance a little bit in favor of mortgages relative to. 570 00:29:49,800 --> 00:29:52,600 Speaker 1: Ig are they also less sensitive to the tariff and 571 00:29:52,760 --> 00:29:53,200 Speaker 1: trade war? 572 00:29:53,240 --> 00:29:56,120 Speaker 3: And I mean it's it's sort of a low beta 573 00:29:56,600 --> 00:29:58,720 Speaker 3: you know, lassa class at least relative to growth. 574 00:29:58,760 --> 00:29:59,320 Speaker 1: Absolutely. 575 00:29:59,480 --> 00:30:00,000 Speaker 3: Yeah. 576 00:30:00,480 --> 00:30:03,000 Speaker 1: Also one on Europe. I mean what do you mean 577 00:30:03,040 --> 00:30:05,360 Speaker 1: by Europe? Because it is, you know, a large continent, 578 00:30:05,440 --> 00:30:07,920 Speaker 1: many different countries, and is it not the one that's 579 00:30:07,960 --> 00:30:10,440 Speaker 1: you know, next most exposed to the trade will you know, 580 00:30:10,480 --> 00:30:12,960 Speaker 1: we're talking about tariffs and all sorts of things today 581 00:30:13,520 --> 00:30:15,440 Speaker 1: from the EU and the tit for tat and could 582 00:30:15,480 --> 00:30:17,680 Speaker 1: get a lot worse. Does that not change your assumptions 583 00:30:17,880 --> 00:30:20,360 Speaker 1: in terms of investing in European credit? 584 00:30:20,720 --> 00:30:22,640 Speaker 3: I think that will weigh a lot more on the 585 00:30:22,640 --> 00:30:24,880 Speaker 3: equity market again, you know, you you sort of have 586 00:30:24,960 --> 00:30:26,920 Speaker 3: to take a capital structure of you and autos, by 587 00:30:26,960 --> 00:30:28,600 Speaker 3: the way, is a great example. You know, if you 588 00:30:28,600 --> 00:30:31,840 Speaker 3: look at the performance of the European auto sector last year, inequities, 589 00:30:31,880 --> 00:30:35,920 Speaker 3: it's been terrible Basically, if you look at the euro 590 00:30:36,080 --> 00:30:39,520 Speaker 3: ig auto sector, you see a little bit of widening, 591 00:30:39,600 --> 00:30:41,920 Speaker 3: but in the grand scheme of things, you know, it's 592 00:30:42,040 --> 00:30:44,920 Speaker 3: nothing right next to the underperformance of the equity market. 593 00:30:44,920 --> 00:30:47,560 Speaker 3: And so so that's one number two. We talked about 594 00:30:47,720 --> 00:30:50,400 Speaker 3: M and A earlier. I think Europe is a little 595 00:30:50,440 --> 00:30:53,240 Speaker 3: bit behind on the M and A cycle, But that's 596 00:30:53,280 --> 00:30:55,360 Speaker 3: actually a good thing if you're a bondholder. That just 597 00:30:55,400 --> 00:30:59,080 Speaker 3: means that most companies are still incentivized to manage capital concernedly. 598 00:30:59,160 --> 00:31:02,040 Speaker 3: And so I think there's to be less idiosyncratic noise 599 00:31:02,720 --> 00:31:05,160 Speaker 3: in Europe relative to the US too. And so the 600 00:31:05,200 --> 00:31:08,959 Speaker 3: bottom line is that, yes, there's no question that terraffs 601 00:31:09,000 --> 00:31:11,640 Speaker 3: would weigh more heavily on Europe. There's, by the way, 602 00:31:11,640 --> 00:31:14,960 Speaker 3: there's teriffs per se, and there's the uncertainty that the 603 00:31:15,040 --> 00:31:17,560 Speaker 3: terrifts created too, and that weighs more heavily on Europe 604 00:31:17,560 --> 00:31:19,880 Speaker 3: relative to the US. But I tend to think that, 605 00:31:19,960 --> 00:31:22,040 Speaker 3: you know, that's mostly an equity story. 606 00:31:21,920 --> 00:31:23,240 Speaker 1: And the M and A in the US that you 607 00:31:23,440 --> 00:31:25,800 Speaker 1: are talking about potentially, you know, a large amount in 608 00:31:25,840 --> 00:31:30,600 Speaker 1: the single A tier. Does that push downgrades in in 609 00:31:30,760 --> 00:31:31,640 Speaker 1: I G for. 610 00:31:31,680 --> 00:31:34,200 Speaker 3: Those companies that have a you know, a tolerance for 611 00:31:34,400 --> 00:31:36,840 Speaker 3: one or two notches of downgrade. Sure, yeah, I mean 612 00:31:36,840 --> 00:31:39,800 Speaker 3: that's sort of the typical playbook. And you know, in 613 00:31:39,840 --> 00:31:43,120 Speaker 3: the cycle now, it'll be interesting to see whether the 614 00:31:43,240 --> 00:31:46,600 Speaker 3: rating agencies will sort of have the tolerance that they had, 615 00:31:46,640 --> 00:31:50,120 Speaker 3: you know, back in fifteen, sixteen, seventeen, you know, by 616 00:31:50,160 --> 00:31:53,560 Speaker 3: alogue sort of these mega deals and you know, these 617 00:31:54,280 --> 00:31:58,479 Speaker 3: temporary deviations from you know, standard credit metrics. That will 618 00:31:58,560 --> 00:32:00,720 Speaker 3: be interesting to watch. But yeah, I mean you certainly 619 00:32:00,720 --> 00:32:02,640 Speaker 3: have det capacity in that similar space. 620 00:32:03,360 --> 00:32:06,520 Speaker 2: So what are some of your red flags? I know 621 00:32:06,600 --> 00:32:10,560 Speaker 2: I can understand your comfort level, but is there a country, 622 00:32:11,120 --> 00:32:16,880 Speaker 2: a company, a sector, a segment that you really want 623 00:32:16,920 --> 00:32:17,880 Speaker 2: to stay away from? 624 00:32:18,280 --> 00:32:21,240 Speaker 3: I think, look, if you asked me what's the biggest 625 00:32:21,320 --> 00:32:24,760 Speaker 3: risk basically to credit and to fix income more generally, 626 00:32:25,280 --> 00:32:28,800 Speaker 3: I would start with the following observation, which is, if 627 00:32:28,840 --> 00:32:31,120 Speaker 3: you go back to the start of the hiking cycle 628 00:32:31,160 --> 00:32:34,880 Speaker 3: in the US and look at how companies have responded 629 00:32:34,920 --> 00:32:37,960 Speaker 3: to that in terms of capital management, most companies have 630 00:32:38,040 --> 00:32:41,560 Speaker 3: been incredibly disciplined basically in terms of managing their capital. 631 00:32:42,200 --> 00:32:44,040 Speaker 3: You know, they issued a lot of debt in twenty 632 00:32:44,080 --> 00:32:48,000 Speaker 3: twenty and twenty twenty one materially strengthened their liquidity positions 633 00:32:48,440 --> 00:32:51,000 Speaker 3: that allowed them to be very patient in twenty twenty 634 00:32:51,000 --> 00:32:53,000 Speaker 3: two and twenty twenty three. I mean, look at you know, 635 00:32:53,080 --> 00:32:55,440 Speaker 3: how you'd issue volumes, and there's a reason why they 636 00:32:55,520 --> 00:32:58,080 Speaker 3: went down dramatically. It is because most companies didn't need 637 00:32:58,120 --> 00:33:01,240 Speaker 3: to issue they had that castional balance sheet. So the 638 00:33:01,320 --> 00:33:04,680 Speaker 3: reason I'm mentioning that is that I think unlike twenty 639 00:33:04,800 --> 00:33:07,840 Speaker 3: seventeen twenty eighteen, where credit was sort of viewed as 640 00:33:07,880 --> 00:33:11,440 Speaker 3: a as a as a pocket of vulnerability, you know, 641 00:33:11,520 --> 00:33:13,880 Speaker 3: in general, because of the growth of triple bs and 642 00:33:14,240 --> 00:33:16,600 Speaker 3: the floth and the late and the loan market, etcetera, 643 00:33:16,960 --> 00:33:18,960 Speaker 3: I think this feels very different, and so I think 644 00:33:19,000 --> 00:33:23,040 Speaker 3: the risk of an indulgenous shock in credit is substantially 645 00:33:23,120 --> 00:33:25,760 Speaker 3: lower today than it was, you know, seven eight years ago. 646 00:33:26,080 --> 00:33:29,479 Speaker 3: What I would worry about is really public balance sheets, 647 00:33:30,040 --> 00:33:34,120 Speaker 3: because you know, public balance sheets have not been managed conservative, 648 00:33:34,720 --> 00:33:37,000 Speaker 3: you know, the last you know, five to six years. 649 00:33:38,200 --> 00:33:42,600 Speaker 3: You know, concerns over debt sustainability would be my number 650 00:33:42,600 --> 00:33:45,960 Speaker 3: one risk, you know, but it's not something that is 651 00:33:46,000 --> 00:33:49,080 Speaker 3: indigenous to credit. It would be more of an exogenous shock. 652 00:33:49,200 --> 00:33:52,640 Speaker 3: But you know, deficits are large across the board and 653 00:33:52,680 --> 00:33:54,520 Speaker 3: at some point you need to sort of take care 654 00:33:54,560 --> 00:33:55,000 Speaker 3: of it. 655 00:33:55,080 --> 00:33:56,680 Speaker 1: Is that more of the sovereign leveryly you're talking about 656 00:33:56,680 --> 00:33:57,040 Speaker 1: states and. 657 00:33:57,120 --> 00:34:00,400 Speaker 3: Unis, that's more of a sovereign conversation. I mean, we 658 00:34:00,440 --> 00:34:02,320 Speaker 3: had a bit of a of a of a test 659 00:34:02,400 --> 00:34:04,840 Speaker 3: last year with France and by the way, you know, 660 00:34:04,960 --> 00:34:07,760 Speaker 3: FRENCHI A tea spreads are still sort of close to 661 00:34:08,000 --> 00:34:10,799 Speaker 3: that that that seventy seventy five percent, you know, a 662 00:34:10,840 --> 00:34:14,560 Speaker 3: seventy five basis point range, and so that excess premium 663 00:34:14,640 --> 00:34:16,439 Speaker 3: has has not gone away, it's still there. 664 00:34:17,040 --> 00:34:22,120 Speaker 2: So what's the next group of mag seven? What's the 665 00:34:22,160 --> 00:34:26,759 Speaker 2: next in Nvidia? We're all missing this massive upside in 666 00:34:27,160 --> 00:34:29,120 Speaker 2: this lackluster sort of environment. 667 00:34:29,280 --> 00:34:32,480 Speaker 3: Well, in credit, there's there's no convection basically most of 668 00:34:32,480 --> 00:34:36,560 Speaker 3: that unfortunately goes to goes to the equity market. So 669 00:34:36,719 --> 00:34:39,120 Speaker 3: you know, you can grow your market cap dramatically if 670 00:34:39,160 --> 00:34:41,200 Speaker 3: you grow your market cap and credit that's a problem. 671 00:34:41,200 --> 00:34:43,080 Speaker 3: By the way, and if we have a max seven 672 00:34:43,120 --> 00:34:45,520 Speaker 3: in credit, you know, with that level of concentration, I 673 00:34:45,520 --> 00:34:47,719 Speaker 3: would view that as as an issue. That just means 674 00:34:47,760 --> 00:34:51,920 Speaker 3: you have a group of seven companies that are over leverage, 675 00:34:51,960 --> 00:34:53,759 Speaker 3: and so that would that wouldn't be you know, that 676 00:34:53,920 --> 00:34:56,279 Speaker 3: wouldn't be a good thing. Look, I think if you know, 677 00:34:56,280 --> 00:34:58,640 Speaker 3: if there's innovation, if there's R and D, if there's 678 00:34:58,680 --> 00:35:01,359 Speaker 3: something like you know that that just creates a lot 679 00:35:01,360 --> 00:35:05,000 Speaker 3: of value, most of that value will go to equity investors. 680 00:35:05,360 --> 00:35:09,200 Speaker 2: Yeah, the typical life of the credit person exactly, no 681 00:35:09,280 --> 00:35:11,040 Speaker 2: reward at all, risk exactly. 682 00:35:11,239 --> 00:35:13,319 Speaker 1: Do you see anything on the horizon that might change 683 00:35:13,320 --> 00:35:15,680 Speaker 1: the supply demand imbalance I'm thinking of on the on 684 00:35:15,840 --> 00:35:18,120 Speaker 1: the supply side potentially M and A and on the 685 00:35:18,160 --> 00:35:21,879 Speaker 1: demand side, is there any hint that foreign demand might 686 00:35:21,920 --> 00:35:24,719 Speaker 1: slip off? Yeah, for US credit. 687 00:35:24,760 --> 00:35:28,560 Speaker 3: So as you may remember, but soon of the consensus 688 00:35:28,560 --> 00:35:31,200 Speaker 3: going into twenty twenty four was that foreign demand will 689 00:35:31,239 --> 00:35:35,120 Speaker 3: weaken quite dramatic, and the narrative typically, you know, was 690 00:35:35,200 --> 00:35:38,160 Speaker 3: along the lines of funding and hedging in the dallar 691 00:35:38,200 --> 00:35:40,720 Speaker 3: market is too expensive and that will sort of destroy 692 00:35:40,920 --> 00:35:44,560 Speaker 3: you know, for you know, some some foreign demand. In hindsight, 693 00:35:44,680 --> 00:35:47,160 Speaker 3: it hasn't happened. And so I think what a lot 694 00:35:47,200 --> 00:35:49,520 Speaker 3: of folks missed is that there's a big chunk of 695 00:35:49,520 --> 00:35:51,919 Speaker 3: that foreign demand that is unhudged. But if you look 696 00:35:51,960 --> 00:35:54,719 Speaker 3: at the Treasury take data for example, tells you that 697 00:35:54,719 --> 00:35:57,160 Speaker 3: twenty twenty four is on track for being the strongest 698 00:35:57,239 --> 00:36:00,640 Speaker 3: year ever for foreign demand. I don't think that will change. 699 00:36:00,640 --> 00:36:04,920 Speaker 3: I think a portunistic foreign demand out of Europe, for example, 700 00:36:05,239 --> 00:36:08,600 Speaker 3: could weaken a little bit, just because the euromarket offers 701 00:36:08,680 --> 00:36:12,279 Speaker 3: domestic investors with a pretty decent level of yield support. 702 00:36:12,880 --> 00:36:15,360 Speaker 3: But when you think about Asia, when you think about Japan, 703 00:36:16,320 --> 00:36:18,960 Speaker 3: you know, these like big jurisdictions that are you know, 704 00:36:19,080 --> 00:36:22,680 Speaker 3: big bars of credit and fixed income. More generally, I 705 00:36:22,719 --> 00:36:24,640 Speaker 3: think foreign demand will likely remain there. 706 00:36:25,040 --> 00:36:26,840 Speaker 1: When you're talking to these foreign clients, you don't have 707 00:36:26,880 --> 00:36:29,200 Speaker 1: to name them obviously, but what are the questions they're 708 00:36:29,200 --> 00:36:31,640 Speaker 1: asking you about US credit right now? What are the 709 00:36:31,640 --> 00:36:33,600 Speaker 1: things that really, you know, they want to know. 710 00:36:34,120 --> 00:36:37,799 Speaker 3: I think in general that sustainability is a topic that 711 00:36:37,880 --> 00:36:40,360 Speaker 3: comes out all the time. It's media a rate story, 712 00:36:40,480 --> 00:36:43,040 Speaker 3: not not so much of a of a credit story. 713 00:36:43,080 --> 00:36:45,520 Speaker 3: And then I guess you have a topic of conversation 714 00:36:45,600 --> 00:36:47,400 Speaker 3: that we talk about all the time. Is really the 715 00:36:47,440 --> 00:36:50,200 Speaker 3: growth of private credit and how to deploy capital there. 716 00:36:50,239 --> 00:36:53,839 Speaker 3: That's sort of the next you know, growth engine of portfolios. 717 00:36:53,840 --> 00:36:57,239 Speaker 3: But most clients are laser focused on private credit, not 718 00:36:57,360 --> 00:36:59,279 Speaker 3: just direct lending, by the way, but even I you 719 00:36:59,320 --> 00:37:02,080 Speaker 3: know i G product credit, whether it's asset back finance 720 00:37:02,239 --> 00:37:05,560 Speaker 3: or or some of the you know, direct lending deals 721 00:37:05,600 --> 00:37:06,839 Speaker 3: that we've seen in the i G mark. 722 00:37:06,920 --> 00:37:10,520 Speaker 1: And in terms of one thing relative value anywhere in 723 00:37:10,520 --> 00:37:12,560 Speaker 1: the world, what would you put your finger on, what's 724 00:37:12,600 --> 00:37:15,040 Speaker 1: your edge right now? Where where's the where's the best 725 00:37:15,120 --> 00:37:15,840 Speaker 1: relative value? 726 00:37:15,960 --> 00:37:18,560 Speaker 3: Yeah, so we started the conversation with Terraffs. Actually the 727 00:37:18,560 --> 00:37:20,880 Speaker 3: one place where you know, there's been evidence of a 728 00:37:20,920 --> 00:37:25,040 Speaker 3: tariffspreium is actually lat time credit where you could you 729 00:37:25,080 --> 00:37:28,560 Speaker 3: could we we at some point we had the lattime 730 00:37:28,600 --> 00:37:31,759 Speaker 3: IG index trading wider than the WUS and excess. So 731 00:37:31,840 --> 00:37:34,440 Speaker 3: that's a good example of some convexity that kind of 732 00:37:34,440 --> 00:37:37,880 Speaker 3: built up. These are really you know, good quality companies 733 00:37:37,960 --> 00:37:41,080 Speaker 3: in general that have you know, daughter denominated doinal sheets 734 00:37:41,080 --> 00:37:42,799 Speaker 3: for the most part. So I would look at that 735 00:37:42,880 --> 00:37:45,320 Speaker 3: a bit more, you know, as a as a pocket 736 00:37:45,360 --> 00:37:49,640 Speaker 3: of upside potentially talked about mortgages, you know, I like that, 737 00:37:49,719 --> 00:37:52,799 Speaker 3: you know, among high quality products and then within sort 738 00:37:52,840 --> 00:37:56,000 Speaker 3: of you know, some of the more niche asset classes. 739 00:37:56,400 --> 00:37:59,400 Speaker 3: We still see value in CMBs. Obviously, we loved it 740 00:37:59,480 --> 00:38:02,680 Speaker 3: eighteen months ago, when you know new issue triple B 741 00:38:02,840 --> 00:38:06,520 Speaker 3: minus CMBs staunchers were coming in at nine hundred basis points. 742 00:38:06,880 --> 00:38:09,200 Speaker 3: The easy money has been made, so to speak, and 743 00:38:09,239 --> 00:38:13,240 Speaker 3: so it's more labor intensive, but in relative terms, there's 744 00:38:13,360 --> 00:38:14,640 Speaker 3: still value in CMBs. 745 00:38:15,000 --> 00:38:16,600 Speaker 1: And that gap on the mortgage side. Do you think 746 00:38:16,600 --> 00:38:21,000 Speaker 1: that closes this year the forty basis point at least slow? 747 00:38:21,400 --> 00:38:23,680 Speaker 3: I think, you know, maybe half of it closes this year, 748 00:38:23,719 --> 00:38:25,520 Speaker 3: but it's it's a slow one. I mean. The other 749 00:38:25,600 --> 00:38:29,319 Speaker 3: drag on performance, by the way, is rates volatility. You know, 750 00:38:30,000 --> 00:38:32,400 Speaker 3: and there's lots of reasons to think that that that 751 00:38:32,560 --> 00:38:35,120 Speaker 3: speed of mean reversion in rates volatility is going to 752 00:38:35,120 --> 00:38:36,759 Speaker 3: be a little slower than most people thought. 753 00:38:37,040 --> 00:38:38,839 Speaker 1: And if rates go slightly high, let's say people talking 754 00:38:38,840 --> 00:38:41,279 Speaker 1: about five percent, now, does that make things. 755 00:38:40,960 --> 00:38:43,400 Speaker 3: Cry they go higher? You know, the drivers of the 756 00:38:43,440 --> 00:38:46,680 Speaker 3: backup and rates always matter more than the backup itself. 757 00:38:46,719 --> 00:38:50,400 Speaker 3: And so if they go higher because growth is stronger, 758 00:38:50,680 --> 00:38:53,640 Speaker 3: or in general, because that interaction between growth and inflation 759 00:38:53,760 --> 00:38:56,560 Speaker 3: is still friendly, I don't think that's a problem. If 760 00:38:56,560 --> 00:39:00,919 Speaker 3: they go up, because you know, there's evidence of inflation reacceleration. 761 00:39:01,520 --> 00:39:03,600 Speaker 3: That's a bigger problem. I mean that creates you know, 762 00:39:03,680 --> 00:39:06,080 Speaker 3: all sorts of issues because you got a pressure margins 763 00:39:06,120 --> 00:39:09,799 Speaker 3: and so bad for fundamentals. And you also you know, 764 00:39:09,880 --> 00:39:12,920 Speaker 3: could bring back, you know, the correlation between rates and 765 00:39:12,920 --> 00:39:15,759 Speaker 3: spreads into positive territory. I mean, twenty twenty three was 766 00:39:16,120 --> 00:39:19,360 Speaker 3: a painful year because you had that double wheremie of 767 00:39:19,680 --> 00:39:23,080 Speaker 3: higher spreads, wider spread, higher rates, wider spreads. And the 768 00:39:23,160 --> 00:39:25,040 Speaker 3: reason you had that is because the move higher and 769 00:39:25,120 --> 00:39:28,839 Speaker 3: rates wasn't entirely driven by you know, inflation premium. If 770 00:39:28,840 --> 00:39:31,399 Speaker 3: we go back to that sort of regime, I think 771 00:39:31,400 --> 00:39:33,759 Speaker 3: it would be problematic. I think the odds are low. 772 00:39:33,920 --> 00:39:37,319 Speaker 1: Great stuff, Lot Fee Career, Chief Credit Strategists at Goldman Sex. 773 00:39:37,360 --> 00:39:39,320 Speaker 1: It's been a pleasure having you on the credit edge money. 774 00:39:39,320 --> 00:39:40,839 Speaker 3: Thanks thanks for having me, and. 775 00:39:40,840 --> 00:39:43,600 Speaker 1: Of course we're very grateful to rub Shiftman from Bloomberg Intelligence. 776 00:39:43,600 --> 00:39:44,319 Speaker 1: Thanks for joining us. 777 00:39:44,239 --> 00:39:46,160 Speaker 2: Today Web Thanks so much, James for more. 778 00:39:46,080 --> 00:39:48,400 Speaker 1: Credit analysis read all of rub Shiftman's great work on 779 00:39:48,440 --> 00:39:51,920 Speaker 1: the Bloomberg terminal. Bloomberg Intelligence is part of our research department, 780 00:39:51,920 --> 00:39:55,040 Speaker 1: with five hundred analysts and strategists working across all markets. 781 00:39:55,320 --> 00:39:58,440 Speaker 1: Coverage includes over two thousand equities and credits, and outlooks 782 00:39:58,440 --> 00:40:01,319 Speaker 1: on more than ninety industries and one hundred market indices, 783 00:40:01,440 --> 00:40:05,040 Speaker 1: currencies and commodities. Please do subscribe to the Credit Edge 784 00:40:05,040 --> 00:40:07,560 Speaker 1: wherever you get your podcasts. We're on Apple, Spotify and 785 00:40:07,600 --> 00:40:10,480 Speaker 1: all other good podcast providers. Give us a review, tell 786 00:40:10,520 --> 00:40:13,840 Speaker 1: your friends, or email. Meet directly at jcrombieight at Bloomberg 787 00:40:13,920 --> 00:40:16,719 Speaker 1: dot net. I'm James Crombie. It's been a pleasure having 788 00:40:16,760 --> 00:40:23,839 Speaker 1: you join us again next week on the Credit Edge.