Speaker 1: Welcome to Inside Active, a podcast about active managers that
Speaker 1: goes beyond sound bites and headlines and looks deeper into
Speaker 1: their processes, challenges and philosophies and security selection. I'm David
Speaker 1: Cohne i the Mutual Fund and Active Research at Bloomberg Intelligence.
Speaker 1: Today my coast is Sam Guy, a corporate credit strategist
Speaker 1: at Bloomberg Intelligence. Sam, thanks for joining me today.
Speaker 2: Yeah, thanks for having me on again.
Speaker 1: So your recent research looked at how credit rating agencies
Speaker 1: are viewing the broad it credit environment. Given that outlook
Speaker 1: and the events you know, unfolding in the Middle East
Speaker 1: over the weekend, you know, with heightened tensions with Iran,
Speaker 1: how do you think geopolitical risk is shaping rating agencies
Speaker 1: take on corporate credit risk right now? Any specific scenarios
Speaker 1: with this kind of uncertainty could shift credit outlook.
Speaker 2: Yeah, I mean to kind of kick it off. I
Speaker 2: think when you're looking at what rating agencies are going
Speaker 2: to do, I think they move a little bit slower,
Speaker 2: so it's tough to say exactly how they're going to
Speaker 2: react to what's going on right now. I think them
Speaker 2: and the market more broadly is just trying to digest
Speaker 2: you know how long is this conflict going to last.
Speaker 2: But in terms of what we track on our end
Speaker 2: on the ratings front, you know, we're looking at two things.
Speaker 2: We're looking at rating actions that have happened in the past,
Speaker 2: which you know, if you're looking across investment grade and
Speaker 2: high yield, has been broadly positive. But we also look
Speaker 2: at just broader sentiment looking forward from the rating agencies,
Speaker 2: which when you're looking at that piece, it's looking a
Speaker 2: little bit more negative, especially for high yield companies. So
Speaker 2: in terms of how the current events might impact that,
Speaker 2: I think you're just again going to wait and see,
Speaker 2: you know, how long this might potentially last, and then
Speaker 2: I think it could be a little bit more sector
Speaker 2: focused if rating agencies do decide to start being a
Speaker 2: little bit more pessimistic. Obviously energy being the big area
Speaker 2: where companies might start to see a little bit of
Speaker 2: impact just with where prices are headed and overall supply
Speaker 2: that's heading into the market there. So yeah, overall though,
Speaker 2: like I said, positive in terms of what they've been doing,
Speaker 2: negative kind of looking forward, especially on the high yield side.
Speaker 1: O great, great, well, I think our yesterday can certainly
Speaker 1: add to the credit discussion. I like to welcome David
Speaker 1: Sherman to the podcast. David is founder and chief investment
Speaker 1: officer of Crossing Bridge Advisors and a portfolio manager on
Speaker 1: a number of funds, including the River Park Strategic Income
Speaker 1: Fund ticker rs iv X. David, thank you for joining
Speaker 1: us today.
Speaker 3: Thank you, Sam and David.
Speaker 1: So, how would you describe your core investment philosophy and
Speaker 1: how's it involved over your career?
Speaker 3: So, my core investment philosophy of both myself and the
Speaker 3: team here at Crossing Bridge, as well as what was
Speaker 3: taught to me during my early days at Lucidia, is
Speaker 3: that you've got to protect your capital first. So a
Speaker 3: lot of people think about what am I what's my
Speaker 3: return going to be? And I think that's not the
Speaker 3: right question to start with. I think the question to
Speaker 3: start with is am I going to get a return
Speaker 3: of my capital? How am I going to get a
Speaker 3: return on my capital? What are the risks to my
Speaker 3: return on capital? And what kind of of risk am
Speaker 3: I taking on that capital? The next question is am
Speaker 3: I being compensated? In fixed income? In particular where you
Speaker 3: have were ned upside right? You have whatever the prices
Speaker 3: versus par so if you buy the discount, you have
Speaker 3: that amortization at discount, and if you buy it at
Speaker 3: a premium, it's going to par But you're going to
Speaker 3: pars where you're going one word or the other. So
Speaker 3: the real question is if par is where I'm going
Speaker 3: most of my return, if not all of my return
Speaker 3: is from coupon or embedded coupon. So you're not playing
Speaker 3: like an equity for some big upside, you know, and
Speaker 3: if you lose money, it takes a long long time
Speaker 3: to make it up. So the first point is how
Speaker 3: do you make sure you don't lose money? And I
Speaker 3: think in River Parks Strategic Income, we've illustrated that although
Speaker 3: our upside capture versus peers is not in the top quartile,
Speaker 3: our die in side capture is dramatically in the top quartel.
Speaker 3: When you do that over a long period of time,
Speaker 3: you actually get significantly better compounder returns.
Speaker 1: So how does that work in terms of I should say,
Speaker 1: how does that show up in the portfolio construction decisions?
Speaker 3: So we're bottom up value investors, So we take the
Speaker 3: same discipline that you hear about from all these value
Speaker 3: equity folks that are disciples of Warren Buffet or or
Speaker 3: derivatives of Warren Buffet. We applied exactly the same into credit,
Speaker 3: and we start with the business model. So the question
Speaker 3: is you know a business model? So for instance, today
Speaker 3: in the Nordic bond market, they're issuing a bond on
Speaker 3: heated Teddy Bears and it's a very popular product that's
Speaker 3: been around for a long time, and the borrowers doing
Speaker 3: what they call divn and recap. He's taking money off
Speaker 3: the table to put into his pocket. And he's doing
Speaker 3: this because he's moving his citizenship to Ireland. And there's
Speaker 3: a state reasons and tax reasons and they're all perfectly
Speaker 3: fine reasons. It's not like I think, you know. The
Speaker 3: CEO who's run this business at the Entrepnore from beginning
Speaker 3: knows something that no one else knows. It's a really
Speaker 3: good business. It's been growing every year in recessions. It's grown.
Speaker 3: It's not it done here. It reminds me a little
Speaker 3: bit of build a bear. However, it's still a divner
Speaker 3: recap and it has very little leverage, meaning that debt
Speaker 3: divided by cash flow is is very minimal. And a
Speaker 3: friend of mine set, are you going to buy the
Speaker 3: teddy deal? And I said no, and they said why.
Speaker 3: I said, well, the way I look at it is,
Speaker 3: do we want to run a Teddy Bear company if
Speaker 3: things go bad? And what is there to salvage in
Speaker 3: the Teddy Bearer company if they go bad? So my
Speaker 3: friend said, well, do you think it's going to about it?
Speaker 3: I said no, I think it's absolutely fine. I think
Speaker 3: you're probably gonna make your money, You're gonna get your
Speaker 3: Cooper nuts are gonna work. But if it doesn't, what's planned?
Speaker 3: B There is no plan being a consumer one product
Speaker 3: that's heated Teddy Bears where the entrepreneur doesn't choose to
Speaker 3: support it.
Speaker 2: Right.
Speaker 3: So that's a great example, very simplistically of a perfectly
Speaker 3: fine loan or bond that we wouldn't do. But it's
Speaker 3: and it's not a function of where you're earning five
Speaker 3: hundred off the curve.
Speaker 2: It's just.
Speaker 3: Not a business model that you know, we can get
Speaker 3: our arms around that's generational to generational.
Speaker 1: That makes sense if we dig a little deeper into
Speaker 1: your investment process, are there I guess certain qualitative or
Speaker 1: quantitative factors that are really non negotiable when you're kind
Speaker 1: of doing your credit analysis, when you're saying you know
Speaker 1: before you're going to look to add a position.
Speaker 3: Well, the first thing again what we do is we
Speaker 3: look to the business model and better way we get
Speaker 3: it wrong. We don't always get it right, but business model,
Speaker 3: I think is paramount, and we don't all have to
Speaker 3: agree on what's a good business model, right, that's the beauty.
Speaker 3: There's an art there. But outside a business model, for sure,
Speaker 3: the most single important part is no different than a
Speaker 3: pe ratio or a cash flow ratio. What is my
Speaker 3: total debt or at least a debt where I am
Speaker 3: in the capital structure in comparison to the cash flows
Speaker 3: that one would expect over time. And you cannot ignore
Speaker 3: two sub sectors. How much debt can the company put
Speaker 3: on equal or senior to you in the future, because
Speaker 3: when they can, they will right. So how much can
Speaker 3: you have what they call prime to put on top
Speaker 3: with you? And what does that change your ratio from
Speaker 3: a cash flow standpoint? And the second substant is what
Speaker 3: does working capital look like? Because working capital is one
Speaker 3: thing I think most analysts across the board really undervalue
Speaker 3: and don't really appreciate the less working capital but by
Speaker 3: far debting currents and the multiple so it's no different
Speaker 3: than if you were a real estate investment you said,
Speaker 3: what's my cap rate? Right, it's effectively the same analysis.
Speaker 1: Okay, And you know the fun we're talking about is
Speaker 1: strategic income. Are there times when you're kind of leaning
Speaker 1: into op opportunistic excuse me a situations and you know,
Speaker 1: how would you balance up while maintaining this, you know,
Speaker 1: strict discipline.
Speaker 3: Well, if you can find a fat pitch, you should
Speaker 3: take advantage of it. Unfortunately, there are few and far
Speaker 3: in between. And when you generally feel like there's fat pitches,
Speaker 3: there's lots of fat pitches. Right. The market's melted down.
Speaker 3: Think of Post oh eight. You could take a machine
Speaker 3: gun and shoot it pretty much anything and it was
Speaker 3: a fat pitch, right. So to me, a real fat
Speaker 3: pitch is in a market that's normal, where there's scarce
Speaker 3: opportunity and you find an opportunity. And in that case,
Speaker 3: I have no problem with the fund taking a four
Speaker 3: or five percent position in those situations because there's so
Speaker 3: few and farm pine with the caveat, we have to
Speaker 3: feel one hundred percent comfortable that when the bonds get
Speaker 3: paid off, they will get paid off in accordance with
Speaker 3: the amount that you've invested your full nun So buying
Speaker 3: a bond at sixty where you think you're going to
Speaker 3: get two coupons of ten percent, your actual cost is forty, right,
Speaker 3: sixty minus two coupons ten plus ten is twenty gets
Speaker 3: you forty. And then say, well, we think it's worth
Speaker 3: forty cents. Well, then you earned a zero return of
Speaker 3: your money for two years under the hope you're going
Speaker 3: to get coupons which aren't tax efficient for a piece
Speaker 3: of paper that's worth forty. That is not a fat pitch.
Speaker 3: That is not opportunistic. And by the way, part bonds
Speaker 3: can be opportunistic, you know, give you example a while back,
Speaker 3: we got involved in Viacom, and then let's go back
Speaker 3: to twenty eighteen. But what's interesting is things repeat themselves, right,
Speaker 3: think a paramount of Warner Brothers today. But in Viacom,
Speaker 3: CBS was going to acquire Viacom, and CBS that traded
Speaker 3: at a very tight spread, and Viacom traded a very
Speaker 3: widespread and the market wasn't appreciating that they were effectively
Speaker 3: the same credit. Right, And to me, even though it
Speaker 3: was investment grade, the fat pitch was the spread was
Speaker 3: so wide that you take the longest day to paper
Speaker 3: you can find to get the biggest spread. You take
Speaker 3: out the interest rate risk by shortening or hedging against
Speaker 3: long term treasuries, so you're just long the spread, but
Speaker 3: you're not a credit default swop where it's a five
Speaker 3: year with an average life of two and a half.
Speaker 3: You've got a long day to piece. And then when
Speaker 3: people realize the conversions. Assuming I got the analysis, the
Speaker 3: team got the analysis correct on CBS, you're going to
Speaker 3: get a big returner cap on It was an investment
Speaker 3: grade world.
Speaker 2: So Sherman, I want to kind of dig into the
Speaker 2: market right now. Obviously, over the past six months, if
Speaker 2: you're looking at investment grade or how yield spreads have
Speaker 2: been relatively tight, pretty range bound, I'd say, probably with
Speaker 2: the exception of the past week or so. But for you,
Speaker 2: where are you seeing opportunities just across you know, the
Speaker 2: rating spectrum for your strategic income fund, because it looks
Speaker 2: like you can kind of play at multiple parts of
Speaker 2: the spectrum. So I'm wondering for you where you seeing
Speaker 2: value across those asset classes right now.
Speaker 3: So asset classes across the board are expensive, I don't
Speaker 3: care if it's stocks, bonds, cnbs abs, they're just expensive
Speaker 3: and it's been well documented as you know that the
Speaker 3: US securities are significantly more expensive than developed countries outside
Speaker 3: the US. So one of the areas that we find
Speaker 3: attractive is actually in the high yield space and in
Speaker 3: the investment grade space in issuers outside the United States
Speaker 3: or US issuers that have taken advance inge of the
Speaker 3: platform that the Nordic market offers. Because the Nordic market,
Speaker 3: you should think of it as not issuers that are Finland, Sweden, Norway, Iceland, Denmark.
Speaker 3: You should think of it as a platform like Nasdaq,
Speaker 3: is a platform where issuers can come whether they're European
Speaker 3: or US and access it is a form of barring
Speaker 3: money at four hundred million dollars or less, because the
Speaker 3: only other people that lend to four hundred million or less,
Speaker 3: like one hundred and fifty or one hundred or two
Speaker 3: hundred are direct lenders. So it's a direct it's a
Speaker 3: direct competitor direct lending. So that's where that's Warren area.
Speaker 3: We can go through more, and I do want to
Speaker 3: be clear your listener. Strategic income is a conservative high
Speaker 3: yield funding that it's typically I mean, ideally in a
Speaker 3: fat pitch world, it's one hundred percent high yield, but
Speaker 3: we've not really been in one hundred percent highield very
Speaker 3: long in that product since we started the product back
Speaker 3: in twenty and twelve. But like right now, it's about
Speaker 3: forty percent investment grade and cash are pretty close to it,
Speaker 3: which tells you how you feel about spreads. I mean,
Speaker 3: we've written a lot that you're you know, you're not
Speaker 3: getting paid a lot over treasuries in the market in general.
Speaker 2: So I also saw with that fun that the target
Speaker 2: duration is two and a half years to four years ideally.
Speaker 2: For me, I was wondering, do you ever see opportunities
Speaker 2: that maybe kind of stretch duration that you will be
Speaker 2: open to getting into if you can balance that out
Speaker 2: on the other side, or do you try and stick
Speaker 2: as closely as possible to that duration window.
Speaker 3: So we don't want to be interest rate speculators, and
Speaker 3: a long duration debt is an interest rate speculation, educated
Speaker 3: or not that rates are going to come down period
Speaker 3: indus story. And then you also now with the shorter
Speaker 3: life cycle in business, as we saw in the the
Speaker 3: sassacop apocalypse with AI, the lifespan of businesses is less
Speaker 3: certain on terminal value. So you know the idea of
Speaker 3: buying a one hundred year bond when any company, whether
Speaker 3: it's Google or Pepsi, you know, a lot happens in
Speaker 3: one hundred years. I'm not sure I want that kind
Speaker 3: of bottom up duration risk. So I kind of want
Speaker 3: to jump in again.
Speaker 1: When when there's a situation spread spreads are tight, defaults
Speaker 1: are low. How do you prepare the portfolio or you know,
Speaker 1: any of your funds for that matter. You know, for
Speaker 1: a potential deterioration in the market before the market actually
Speaker 1: sees it, you get lucky.
Speaker 3: So no, no, there's some truth that I mean, I'll
Speaker 3: answer the question, but I want to start with some
Speaker 3: basic for your audience. You know, funds that are growing
Speaker 3: or static do better in deteriorating markets than funds that
Speaker 3: are shrinking in asset flows, right because the less when
Speaker 3: there's price discovery, it's generally not the stuff that gets
Speaker 3: priced down that is quick to move off your your portfolio.
Speaker 3: We've seen this in the whole BBC Private Len World
Speaker 3: conversation that's going on as we speak with Blue Owl,
Speaker 3: not to pick on them, but literally everybody else. So
Speaker 3: one of the things I think from an outsider perspective
Speaker 3: is it is important to think about what is the
Speaker 3: stability and flows of the underlying vehicle that you're investing in,
Speaker 3: whether it's a hedge fund, a private fund, an interval fund.
Speaker 3: There was a good article I think Bloomberg did or
Speaker 3: somebody did, on the life of interval funds and when
Speaker 3: they load up and when they get redemptions. We have
Speaker 3: dairy liquidity, so by definition, we have a mismatch and
Speaker 3: assets and liabilities. Right, our borrowers are like savers at
Speaker 3: a bank, Right, they have daily liquidy. So we're fundamentally
Speaker 3: mismatched to start with. We lend long and borrow short. Right,
Speaker 3: Our customers are our liabilities. I don't mean them negatively,
Speaker 3: but that's so. I think understanding your asset liability match
Speaker 3: helps solve some of that problem, David. And then why
Speaker 3: don't you explore the question further if you want? And
Speaker 3: I can add to it. But I think that's an
Speaker 3: important top down that people have to think about, is
Speaker 3: we're your asset liability matches.
Speaker 2: No, that makes sense. So one thing I want to
Speaker 2: get back to real quick Sherman, is the distress environment.
Speaker 2: I think you were kind of alluding to a little
Speaker 2: bit lower of a supply there, just wondering, you know,
Speaker 2: looking forward, are you seeing maybe that that might start
Speaker 2: to kind of increase in terms of opportunities there, or
Speaker 2: is that something that you're just not really you know,
Speaker 2: keeping all that close an eye on in terms of
Speaker 2: maybe how the FED might impact some of these companies
Speaker 2: that are on the lower end of the spectrum.
Speaker 3: So there's a lot to unpacked there, So I'm going
Speaker 3: to do a little bit. Look, I started in the
Speaker 3: business in nineteen eighty five, is an Internet Drexel in LA.
Speaker 3: I went full time in eighty seven. I started in
Speaker 3: the distressed investing market. That market is not the market
Speaker 3: we have today. The market is different because valuations are different,
Speaker 3: bankruptcy law has matured. You have different constituencies buying distrept
Speaker 3: papers such as clos which make a different alignment of
Speaker 3: interest is very different, let's say, than an opportunistic investor.
Speaker 3: Right their goal is to kick the can down the
Speaker 3: road and maybe not cleanse the balance sheet. Particularly, and
Speaker 3: you have this lovely credit or on credit of warfare
Speaker 3: in the United States where literally the song from Hamilton
Speaker 3: you want to be in the room where it happens
Speaker 3: is takes a whole new meaning. So I find the
Speaker 3: distress market here, particularly of the larger opportunities, less interesting
Speaker 3: or have inherently more risk than what I'm traditionally used to.
Speaker 3: So as a rule, we look at distress always where
Speaker 3: how can we SOLVEREI our own problem with our own capital.
Speaker 3: So by definition, if you're a four billion dollar farm
Speaker 3: and a big positions five percent, like, that's a huge position,
Speaker 3: So that's two hundred million. If we can't solve our
Speaker 3: own problem with two hundred million, then who's coming to
Speaker 3: the rescue for us? So it does limit too. I
Speaker 3: think you're seeing less true distressed because of liability management
Speaker 3: exercises lemies, and that's a functional alignment of interest in
Speaker 3: how things are done. And these costs are out of
Speaker 3: this world. The people are making all the money are
Speaker 3: the financial advisors. I mean, somebody just go buy a
Speaker 3: whole bunch of stocks and financial advisors. It's very different
Speaker 3: in the Nordics, and I'm not their problems with the Nordics,
Speaker 3: but there it's very different. So in the stress world,
Speaker 3: where we see typically opportunity today is post lemy post
Speaker 3: liability manager exercises where we can look at the securities
Speaker 3: that are top of the capital structure with good covenants
Speaker 3: and issue to make money for the original holder. We're
Speaker 3: now that holder, call it a hedge fund. An opportunistic
Speaker 3: holder is looking to move on and recycle their money,
Speaker 3: and they're willing to give up a ten to twelve
Speaker 3: thirteen percent piece of paper top the capital structure, make
Speaker 3: more equity type return, and we like to be a
Speaker 3: provider of liquidity, be a natural transition, and as it seasons,
Speaker 3: the market then picks it up or gets refinanced. Whereas
Speaker 3: in the ORCS it's more of what I'm familiar with
Speaker 3: from the I describe it as what the lever's loan
Speaker 3: market was in the early nineties. There's more opportunity as
Speaker 3: a distress lender.
Speaker 2: So I want to get back to one point you
Speaker 2: mentioned just in terms of the fundamental picture for companies,
Speaker 2: at least in the US. I know you've said, obviously
Speaker 2: bonds a little bit more expensive here relative to some
Speaker 2: opportunities with issuers across the pond. But how are you
Speaker 2: seeing just the overall fundamental picture for US companies. Are
Speaker 2: we getting the same amount of value for the risk
Speaker 2: that you'd be taking on or are you seeing you know,
Speaker 2: metrics like leverage or interest coverage starting to deteriorate a
Speaker 2: little bit.
Speaker 3: So it's really weird. I would say the fixed income market,
Speaker 3: whether it's asset back deals like or just general corporate credit,
Speaker 3: it's hay shape, just like our economy. And the funny
Speaker 3: thing is plain vanilla hyal bonds are some of the
Speaker 3: highest quality junk bonds out there as opposed to leverage
Speaker 3: loans and direct loans or paper that's in the BDC world,
Speaker 3: which is not what you would expect. There's actually been
Speaker 3: a scarcity of issuance of how you'll bonds relative to
Speaker 3: leverage loans and direct lending. And that's a function of
Speaker 3: where capital formation is. So that's an important point. But
Speaker 3: in the answer your question, look, there are two ways
Speaker 3: to think about distress cycles. One is like an insurance
Speaker 3: company where you create ibn R incurb but not reported,
Speaker 3: like a reserve setup right top down. We know we're
Speaker 3: insurance company, we know we're going to have losses. Let's
Speaker 3: reserve for it and let's set up incurb but not
Speaker 3: report it, and then actually see how you are in
Speaker 3: the reserve calculations. And that's one of the things I
Speaker 3: think direct lending, the BDCs and the clos haven't done
Speaker 3: a really good job of truck like an insurance company
Speaker 3: reserve concept, and I think if they did, I think
Speaker 3: that would bring a lot of sense of transparency and
Speaker 3: some level of security too underlying investors. So you wouldn't
Speaker 3: nessly have some of this heightened fear, right because people
Speaker 3: would have a concept of where they are in the
Speaker 3: reserve analysis. But the other thing on the bottom up
Speaker 3: is at the end of the day, it still goes
Speaker 3: to the business model and the amount of debt relative
Speaker 3: to cash flow and where you're creating those businesses. And
Speaker 3: you had a private equity business that had so much
Speaker 3: money put to work they allowed peeing expansion or purchased
Speaker 3: multiple expansion, which don't make sense. I mean, if you
Speaker 3: buy something at fifteen times cash flow, you're never making
Speaker 3: a good return in your capital as a portfolio unless
Speaker 3: it grows. So now you're in the growth business. You're
Speaker 3: in the private equity levered growth equity business, which gives
Speaker 3: you a very little balance sheet room to try to
Speaker 3: pull the levers for growth.
Speaker 2: So then I guess kind of changing gears here slightly
Speaker 2: in terms of risks. I know you mentioned the SaaS
Speaker 2: apocalypse or apocalypse apocalypse of however you want to refer
Speaker 2: to it. Do you see that potentially kind of bleeding
Speaker 2: over into the corporate space Right now, it seems like
Speaker 2: it's a little bit more focused on on BDC's and
Speaker 2: their holdings, and then you're also seeing that kind of
Speaker 2: flow into their equity and bond pricing. But I'm wondering
Speaker 2: if you see that potentially starting to feed into other
Speaker 2: parts of the market.
Speaker 3: Well, I would already argue it has fed into not
Speaker 3: to a severe degree, but has started feeding. And it
Speaker 3: is a shoot first, ask questions later kind of analysis.
Speaker 3: And I I think there have been a couple of pieces.
Speaker 3: Let's take Sitting on one side and the Citron report
Speaker 3: Cittreny report on the other side that I think both
Speaker 3: do a good job of making a case on both
Speaker 3: ends of the spectrum. But you know, we're in we're
Speaker 3: in early we're in early innings. But in answers you're question, Look,
Speaker 3: I think it's about liquidity. When liquidity dries up or
Speaker 3: capital formation becomes difficult, it affects everybody. So if you
Speaker 3: remember an eight little lesson from the Great recession. The
Speaker 3: first stocks common stocks that you could see physically getting
Speaker 3: hammered with difficulty were small caps. Then it became smid caps,
Speaker 3: then it became mid caps, then it became little big caps,
Speaker 3: then it became big caps, and then it just became everything,
Speaker 3: and it looked like you were climbing stairs. So I
Speaker 3: think the answer is keep your eye on the plumbing
Speaker 3: of the liquidity system, whether it's bonds or equity. To
Speaker 3: answer that question, gotcha.
Speaker 2: And then so turning to you also have an ultra
Speaker 2: short duration fund and a low duration high income fund.
Speaker 2: I'm wondering how you kind of position the two and
Speaker 2: just you know, overall differences there for those two funds specifically.
Speaker 3: Okay, so we're a jack of all trades, right, that's
Speaker 3: our business. We're in the product's business, and our factory
Speaker 3: is investments and making investment decisions. But we're in the
Speaker 3: products business. Is a business, which is a little different
Speaker 3: approach from my background of being in the hedge fund
Speaker 3: business where it was like maximizing to odor return and
Speaker 3: again daily liquidity. So we have multiple products. Ultra short
Speaker 3: is a is a means, it's a category that means
Speaker 3: sort of if you don't hold cash, and you don't
Speaker 3: hold money market. What's an alternative with a little longer duration, right,
Speaker 3: a duration of one or less, And whether it's high
Speaker 3: yield or investment grades is a question of the volatility
Speaker 3: risk you're taking. So we have an ultrashort duration high
Speaker 3: yield product. People are, oh, no, it's high yield. It
Speaker 3: buys bonds that have been called and redeemed. These are
Speaker 3: corporations that issue debt years ago. They go out and refinance.
Speaker 3: It's just like your refinancier mortgage, or they're going to
Speaker 3: come doing a year and they don't want to current
Speaker 3: live building in their balance because the auditors don't like it.
Speaker 3: So they're going to clean it up regardless of rates.
Speaker 3: So they announce they're going to refinance it, and they
Speaker 3: go raise the money to refinance it, and then they
Speaker 3: issue a call. Okay, that means they're going to take
Speaker 3: you out. When they issue a call notice, they've structurally
Speaker 3: changed and stature chore changed their maturity. If it was
Speaker 3: a bond doing two years or three years and they
Speaker 3: call it, it's due on the call day period, they
Speaker 3: can't change it other than bankruptcy. That is the law.
Speaker 3: So once they call it, you know it's coming out
Speaker 3: because they raise the money, right, so it's pretty safe
Speaker 3: and you gotta do some underrating, but it's a relatively
Speaker 3: safer way of investing in high yield as a cash alternative.
Speaker 3: And corporations typically have to give you thirty days notice,
Speaker 3: so it's if you're a pension plan, you don't want that.
Speaker 3: It's thirty day paper. Money market funds can't buy it
Speaker 3: because it's junk. It's got this sort of orphan opportunity.
Speaker 3: Now would I buy called redeem paper of a nuclear
Speaker 3: power operator that has one plant. Let's say I'm three
Speaker 3: Mile Island for those who are old enough to remember,
Speaker 3: And the answer is, you're running the risk that the
Speaker 3: nuclear power plant melts down during that thirty day period
Speaker 3: or after they take you out ninety days later, because
Speaker 3: there's a preference period. It's one hundred and twenty day exposure. Yeah,
Speaker 3: probably not. It's not a diversified business, right, so you
Speaker 3: still have to look at the business model and the risk.
Speaker 3: So anyway, that's ultra short. But you also do normal
Speaker 3: investment grade paper in ultra short, and then you have
Speaker 3: other products as well. But that's when ultra short category.
Speaker 1: Is so you mentioned jack of all trades and I
Speaker 1: kind of want to just jump in here real quick.
Speaker 1: Do you think being a smaller firm gives you an
Speaker 1: edge against the mega big firms, you know, the large
Speaker 1: credit managers.
Speaker 3: I don't know, and I don't mean it like you know,
Speaker 3: I don't know. I really don't know, because I'm not
Speaker 3: sure small or large is the answer. I think it's leadership,
Speaker 3: I really do. And I think if you're a firm
Speaker 3: that started with good leadership and grew bigger and you
Speaker 3: were able to keep that culture and discipline and discipline
Speaker 3: is a big part and you can't transition it, that's
Speaker 3: a big event. You know, the problem with being small
Speaker 3: is I had to joke, when you start as a
Speaker 3: small businessman, whether it's a money managering oils, you hire
Speaker 3: who you can with multiple tasks, not who you want
Speaker 3: to right, so your resources are more strained. Whereas a
Speaker 3: big firm you can throw money at problems. I'm not
Speaker 3: saying they throw money smartly. So we just talked about SaaS, right,
Speaker 3: there was a big news that the block guys are firing,
Speaker 3: like I don't know, a third or half year, some
Speaker 3: huge number, you know, and there was a whole argument
Speaker 3: of oh, look what AI is doing, but there was
Speaker 3: other argument they were way over staff to start with. So,
Speaker 3: you know, I think really it's about how are you
Speaker 3: maximizing your resources? And then as you grow, how do
Speaker 3: you transition? Because when you've hired the person who you
Speaker 3: could who could wear multiple hats, and now you've gotten
Speaker 3: bigger and you can hire multiple individuals for specialized tasks,
Speaker 3: what happens that person? How do you handle it?
Speaker 2: So starting to kind of look forward over the next
Speaker 2: year to it ten months, where are you seeing the
Speaker 2: market headed? Where are we going to be over that
Speaker 2: time period. You know, I'm wondering are we still in
Speaker 2: kind of that coupon clipping environment or do you think
Speaker 2: AI is really going to start ramping up in terms
Speaker 2: of more opportunities maybe some value options that might pop
Speaker 2: up in that period.
Speaker 3: Yes, Look, there's nothing wrong with people saying I don't know,
Speaker 3: And one of the hardest things I think people do
Speaker 3: is to admit what they don't know. Right, I can guess,
Speaker 3: I can pontificate I think those aren't really strategies or educating, Right,
Speaker 3: you can have an educated guess. That's very different. Look,
Speaker 3: all of those things you mentioned on the whiteboard, all
Speaker 3: of them. What I can tell you is we've been
Speaker 3: for some time talking about increased volatility and uncertainty and
Speaker 3: with that comes risk, but also comes opportunity. And in
Speaker 3: our year end letter, we came out and we actually
Speaker 3: utilize some of the tools. I think of AI as
Speaker 3: like Excel. It's a tool, it's not a decision maker
Speaker 3: with Claude, because we kept thinking about the current administrative
Speaker 3: leadership in our country and where we are politically, socially
Speaker 3: and economically. As similar to the Gilded Age, and I
Speaker 3: really mean the Guild Age, but you could say it
Speaker 3: was the Golden Age of the fifties, but I don't
Speaker 3: think so, more like the Guilded Age. Right. You can
Speaker 3: argue Twitter and sub stack and various things with publication
Speaker 3: as a form of yellow journalism. To put it in perspective, right,
Speaker 3: I mean, you could argue that there is a lot
Speaker 3: of grift, like in Grift we trust. But you could
Speaker 3: also argue, you know, we're in an age of revolutionary
Speaker 3: change medically and computer wise, and we've been playing around
Speaker 3: with Claude to see, you know how much this helped
Speaker 3: Claude do the digging for us on how this mirrors
Speaker 3: and where there's similarities and differences in the Gilded Age.
Speaker 3: And actually I didn't get enough confidence level to say
Speaker 3: I was like in a like in a statistical way
Speaker 3: that close of a confidence level. So we then started
Speaker 3: picking thirty five different types of environment in the United States,
Speaker 3: everything from the War on Poverty to the Civil War.
Speaker 3: And we started working Claude and saying, you know, where
Speaker 3: are we on a factorial basis with multiple factors, and
Speaker 3: where are we most similar, where are we different? And
Speaker 3: sort of how to think about it. And it's in
Speaker 3: our letter and we're gonna, we hope to put the
Speaker 3: work on our website where people can then overlay it
Speaker 3: like a radar toocy where different environments matchup. We haven't
Speaker 3: quite gotten there because we're lacking the resources. But what's
Speaker 3: interesting is this came up as the seventh most uncertain
Speaker 3: period of the thirty five periods, only to be out
Speaker 3: beaten by In order if I think I can do
Speaker 3: this right off the top of my head, the number
Speaker 3: one I believe was the Great Depression. The number two
Speaker 3: was World War two. I think, the number three was
Speaker 3: Civil War. I think the number four was the Great
Speaker 3: financial crisis, and I had my orders auto.
Speaker 2: Little a couple of big events there, right.
Speaker 3: The number five was a COVID and number six was
Speaker 3: the panic of I think it was eighteen seventy or
Speaker 3: eighteen ninety one of the Panics in the eighteen hundreds,
Speaker 3: and this was number seven, And how this was same
Speaker 3: and different. I know it was a long winded answer,
Speaker 3: but I think since we're in this time, it's kind
Speaker 3: of interesting. Is in all of those events and in
Speaker 3: other events when you've had crisis, this is uncertainty and
Speaker 3: volatility are different than crisis. I happen to mentioned periods
Speaker 3: where there were crisis. We are not in crisis. I
Speaker 3: mean some people might think on the political left to
Speaker 3: right one crisis, but we're not in crisis. The key
Speaker 3: that got you into crisis was liquidity. If the market
Speaker 3: shut down from a liquidys standpoint, you went into crisis
Speaker 3: pretty quickly and it got pretty nasty. What makes this
Speaker 3: the seventh is not its amude in any one factor.
Speaker 3: It's that it has four factors are highly amplituded, and
Speaker 3: no other period has more than three, usually two. The
Speaker 3: other thing is a requirement for you to go on crisis.
Speaker 3: Besides liquidity is income inequality or wealth disparity, and we
Speaker 3: definitely have that. So that was very interesting. And the
Speaker 3: key again was looking at what the capital markets do
Speaker 3: and how they're functioning. And I think the capital markets
Speaker 3: function well, and I think the world's pretty sophisticated, both
Speaker 3: emerging world developed world about that, barring balance sheets which
Speaker 3: are getting out of control. I mean, look at Japan, right,
Speaker 3: The liquidity and the mechanisms to make sure the world's
Speaker 3: flowing is quite good and revolutionary. I mean, no matter
Speaker 3: what your views are on crypto, it definitely is a
Speaker 3: form of advancement toward keeping plumbing going. So I'm optimistic there, Sam.
Speaker 3: I think the problem is valuations are very high and
Speaker 3: we have a high degree of uncertainty. So I think
Speaker 3: you have high end volatility and as a result, we
Speaker 3: position our portfolio right in voluntility. And what happens if
Speaker 3: we're wrong, we're just underperform, we make a little less.
Speaker 2: Yeah. No, that's that's all really insightful. And I mean,
Speaker 2: given that that uncertainty that you've obviously talked quite a
Speaker 2: bit about here, if you know, if a client comes
Speaker 2: to you today with fresh capital, given where all your
Speaker 2: different portfolios are kind of are based. Where would you
Speaker 2: push them if you know they had to go one
Speaker 2: particular direction? Is there one spot of the market that
Speaker 2: you think is going to provide a lot of value?
Speaker 2: You know? I think if the market takes a little
Speaker 2: bit of a turn, obviously duration becomes a big part
Speaker 2: of that. So do they focus more on that ultra
Speaker 2: short short duration? Look, or do you still think the
Speaker 2: Nordic view is kind of the spot to be? Where
Speaker 2: where should they be headed?
Speaker 3: Well, first of all, we welcome them with open arms,
Speaker 3: and the bigger, the happier we are. But look, I
Speaker 3: think I don't think. Look, it's like children. I love
Speaker 3: all my children, some more than others at different periods,
Speaker 3: but I love all my children. I think the question
Speaker 3: that's not the question. The question is investor. You're allocating money,
Speaker 3: What are your needs, what are your goals? How are
Speaker 3: you currently set up? And how are we a piece
Speaker 3: of the puzzle? And what part of the puzzle are
Speaker 3: you missing? Some people are looking for wo volatility. I mean,
Speaker 3: I think that's the golden grayl high returns Novalla. When
Speaker 3: somebody discovers it, they probably found the fountain of life. Right,
Speaker 3: But and other people don't, and I think it's a
Speaker 3: very individualized or customized conversation. I don't think like the
Speaker 3: sixty forty year old clearly doesn't work. Right. So that's
Speaker 3: part of the problem in our world because we tend
Speaker 3: to be conservative focused on the world. We tend to
Speaker 3: have on the extreme level of people running around the
Speaker 3: desert with a luminum foil on their hat head and
Speaker 3: on the less extreme version, there's still overweighted shirt erasure, right,
Speaker 3: because they're very value downside protection. So in those people,
Speaker 3: they probably don't have enough exposure for things where they
Speaker 3: can take risk five years out or longer and take
Speaker 3: the volatility to get higher returns. Right. And then you
Speaker 3: have another group of people like, oh, rates are coming down.
Speaker 3: The government is very focused on reducing rates, which is true.
Speaker 3: I'm sure sure that's true. And the rates are gonna
Speaker 3: I think we're gonna have a steep yel curve. I
Speaker 3: think real rates are gonna be high. I mean, if
Speaker 3: you think about the demand for money Gaza Venezuela, Ukraine,
Speaker 3: those aren't even those are those are drops in the
Speaker 3: bucket compared to AI, space, quantum computing all coming up
Speaker 3: all at the same time. The demand for capital in
Speaker 3: this revolutionary time is huge. That means you got to
Speaker 3: get paid to put your money out longer, which tends
Speaker 3: to mean a steep yel curve. I'm not the only
Speaker 3: person believes this. There's a lot of market strategies from
Speaker 3: gaf Kale to to to others that believe this. But
Speaker 3: I mean, and that's it's just to me, it's reading
Speaker 3: the tea leaves.
Speaker 2: So last thing I want to hit on my end
Speaker 2: is the Nordic piece, which to me, looking at your
Speaker 2: website was really interesting. Obviously everything else seemed a little
Speaker 2: bit more focused on the US. How did you go
Speaker 2: about deciding to invest in the Nordic space, What do
Speaker 2: you see in terms of value there relative to you know,
Speaker 2: the US, and just how that all came about.
Speaker 3: So we've always been a global investor, so you know,
Speaker 3: even in trophy or times ten, fifteen, twenty percent of
Speaker 3: our portfolio we've be companies outside the United States, whether
Speaker 3: it's ultra short duration, low duration, strategic income. My first
Speaker 3: interest in Nordics was back in two thousand and four
Speaker 3: because I came from a rural background, believing or not
Speaker 3: on New Jersey, but South Jersey. You know, south of Philadelphia,
Speaker 3: south of Atlantic City, as far south as Baltimore, a
Speaker 3: whole different growing season actually, And I got into fish farming.
Speaker 3: I mean, the fact that the Nordic government thinks that
Speaker 3: they can tax fish farming is a is a scarce
Speaker 3: resource as a head scratcher to me, but they do.
Speaker 3: And I also was fascinated by the end of money. Right,
Speaker 3: places like Singapore and Norway have big wealth sovereign funds,
Speaker 3: their currency should be strength. So back in two thousand
Speaker 3: and four I started thinking about it, and they and
Speaker 3: the Nordic has actually been an issue in the high
Speaker 3: yield market for a long time. I think Frontline Finance,
Speaker 3: which is a big shipping company, was one of Jeffrey's
Speaker 3: early shipping financings back when they just started after Druxil
Speaker 3: had blown up. So it's not like an unknown factor
Speaker 3: is just not common. So what we found was is
Speaker 3: the Nordic high yield market I wold be specific, started growing,
Speaker 3: and they started growing because there wasn't a natural supporter
Speaker 3: of capital in that sub four hundred million dollar range.
Speaker 3: High yield issues got too big. Investment makans need to
Speaker 3: make too much money, right, so there was a void
Speaker 3: and when that void happened, the Nordic markets sort of
Speaker 3: stepped and said, we don't care if you're from Texas.
Speaker 3: I mean Forum Energy stocks on fire. It's in the US.
Speaker 3: FET they issued dead in the Nordics. KKR is issued
Speaker 3: dead in the Nordics, and vest Corps issued dead in
Speaker 3: the Nordics. So you have LBO players realizing it's a
Speaker 3: source to raise capital. You have non Nordic countries, mainly German,
Speaker 3: and then the German sort of small borrowing range I
Speaker 3: figure what they call it, sort of disappeared. So it
Speaker 3: started growing naturally. And by the way, when markets grow
Speaker 3: a lot, there tends there can be some pretty bad underwriting.
Speaker 3: I think Bloomberg has a couple couple columnists who followed
Speaker 3: the Nordic market and right up of all the bad ones.
Speaker 3: And that's true of every market that grows. But it's
Speaker 3: not a boiler room operation by any stretch. But in
Speaker 3: order to track money as a new issuer, you got
Speaker 3: to pay premiums. That's true in the United States too,
Speaker 3: So the whole market just started paying more premiums and
Speaker 3: was a smaller, so they're smaller deals, a lot more
Speaker 3: new issuers, right, and you know, you probably are. I
Speaker 3: don't think you're giving up depending on what the circumstances liquidity.
Speaker 3: I mean, compared to Dell bonds, short you're giving up liquidity.
Speaker 3: But compared to most traditional high old issuers, I don't
Speaker 3: really think you are unless you won't have the issue. So,
Speaker 3: but they're smaller, you get them paid more. So we
Speaker 3: went over there. What I like about that space is
Speaker 3: they have property rights Anglo law, unlike places like Italy
Speaker 3: in France who have who have ignored creditors rights. Even
Speaker 3: here in the States with GM, they've protected creditors' rights.
Speaker 3: They have a process that sort of helps prevent some
Speaker 3: of the credit on credit warfare that you see here.
Speaker 3: It's a pretty well established transparent system. Oh when they
Speaker 3: have secure debt, their floating rate, they're short maturities. Oh,
Speaker 3: when they're got covenants, something that the lever's law market.
Speaker 3: It reminds me of the lever's lawn market of the
Speaker 3: of the early and mid nineties. So the risk obviously
Speaker 3: is that capital starts flowing out of there pretty quickly.
Speaker 3: And like when Ukraine got invaded by Russia. You know,
Speaker 3: we bought stalt Nielsen bonds. Really cheap, like one hundred
Speaker 3: and fifty bases points wider than they were the day before.
Speaker 3: It's pretty good because somebody couldn't hold dollar paper because
Speaker 3: they were European company, and we provided loquate. So you
Speaker 3: do have bigger movements when money moves in and out.
Speaker 3: But it's a it's an interesting market. But you find
Speaker 3: stuff in the US too. I mean, you know in
Speaker 3: the investment grade side, tax liens, right, tax liens is
Speaker 3: a hedge fund business. They'd buy up the tax lines
Speaker 3: and then they pursue them, and you know, your tax
Speaker 3: liens first write on the property of a house. Well,
Speaker 3: that's now securitized er asset back market. That market's been
Speaker 3: growing steadily. We probably buy about three to four percent
Speaker 3: of that market a year, just the idea. But it's
Speaker 3: it's typically single a double a kind of rated paper,
Speaker 3: and you're getting paid fifty to seventy five bases points
Speaker 3: more than the same equivalent rated paper.
Speaker 2: So what about just in terms of the learning curve
Speaker 2: when you were first getting started there in the Nordic market,
Speaker 2: Like when I think of Europe, I think of complexity
Speaker 2: in terms of different languages, different jurisdictions and laws and
Speaker 2: everything was it tough to get up to speed just
Speaker 2: you know, jumping into that market when you first started out.
Speaker 3: No, no, I mean the predominant language is English. Documents
Speaker 3: are both in English and in whatever common language that
Speaker 3: the issuers in, you know, translating earbuds to a lot.
Speaker 3: If somebody's trying to speak in language you don't recognize anymore,
Speaker 3: it is takes it. It does you have to The
Speaker 3: most important thing that took use to this is really important,
Speaker 3: is remembering you're an invited guest. You're an American. That
Speaker 3: is very different than being an American investing in somebody
Speaker 3: else's backyard. And I think your mentality of an invited
Speaker 3: guest and welcoming help and assistance makes a difference. The
Speaker 3: other thing we did is I think if you're going
Speaker 3: to start investing a lot outside of your natural domain,
Speaker 3: you need boots on the ground. So we could put
Speaker 3: boots on the ground. What we did is we bought
Speaker 3: a twenty five percent interest in a what we think
Speaker 3: is a very solid credit shop in the Nordics called
Speaker 3: Norda Credit Investors NCI, and we own twenty five percent
Speaker 3: of them. And we bought them because we're making decisions
Speaker 3: we're doing our own underwriting, but they understand common customs,
Speaker 3: personalities more familiar, and we do. We do consult with
Speaker 3: them regularly, but we're two different shops. So that's our version.
Speaker 3: Boots on the ground. Like we don't do any emerging
Speaker 3: market by the way, it could be an opportunity. We
Speaker 3: just don't do it. It's not what we do. But
Speaker 3: if we did, we'd have to have boots on the
Speaker 3: ground in these locations if we were a significant investor.
Speaker 1: So before we go, I just had one more question
Speaker 1: to close this out. What do you think the biggest
Speaker 1: mixed conception investors have about flexible credit or high income
Speaker 1: strategies today?
Speaker 3: I think there are two really really miss three really
Speaker 3: really misconception. I'm going to take it to three. Warn
Speaker 3: not just in credit but in general. People I think
Speaker 3: really don't appreciate liquidity premiums. I think people under price liquidity.
Speaker 3: I think premiums of liquidity of definitely not being priced
Speaker 3: ap perpectly. And you can just compare one year's certificates
Speaker 3: of deposit that are insured at a bank and a
Speaker 3: one year T bill is just sort of a measure
Speaker 3: or on the runoff the run te bills have been done,
Speaker 3: and it's particularly important credit because things change quickly. It's
Speaker 3: amazing how much more liquidity drives up and how much
Speaker 3: more premium you should have gotten paid. Two, I think
Speaker 3: people do not appreciate the kind of risk managers are
Speaker 3: taking relative to what they think. So I think there's
Speaker 3: a lot of well known managers who take significantly more risk,
Speaker 3: even though their numbers don't show it. I think if
Speaker 3: you dig downlight on and by light on them, they're
Speaker 3: taking more risk than people appreciate. And three is I
Speaker 3: don't think investors are very disciplined, and you know that
Speaker 3: goes hand in hand with the risk. Right At some
Speaker 3: point you just have to say, like the Teddy Bears,
Speaker 3: I'm sure it's not gonna I'm sure it's gonna work out,
Speaker 3: but it's just not for me. And if you buy
Speaker 3: it and you outperform me by fifty basis points a
Speaker 3: year for the next two years, that's fine. But when
Speaker 3: that Teddy Bear has a problem, if it has a problem,
Speaker 3: I catch up pretty quickly and then go back right
Speaker 3: because if you're down twenty percent, you got to be
Speaker 3: up twenty five to make it back.
Speaker 2: Makes sense.
Speaker 3: Well, and these are on It's not equity.
Speaker 2: This was fun.
Speaker 1: Chairman, thank you so much for joining us my pleasure,
Speaker 1: and Sam, thank you again for being my host.
Speaker 2: Yeah, it was great being on.
Speaker 3: I hope we can do this again.
Speaker 1: Definitely, let's do it. And I also want to thank
Speaker 1: our listeners. If you liked the episode, please share it,
Speaker 1: subscribe and leave a review. If you'd like to see
Speaker 1: more of our research on the terminal, go to BI
Speaker 1: fund Go for fund and Active Research and BI st
Speaker 1: R t N go for credit strat Did you research
Speaker 1: until our next episode.
Speaker 3: This is David Combe with Inside Acted