1 00:00:18,480 --> 00:00:21,000 Speaker 1: Hello, Welcome to The Credit Edge, a weekly markets podcast. 2 00:00:21,040 --> 00:00:23,959 Speaker 1: My name is James Crumbie. I'm a senior editor at Bloomberg, and. 3 00:00:23,880 --> 00:00:26,320 Speaker 2: I'm Matt Quaitner. I'm a credit and a serial blower intelligence. 4 00:00:26,640 --> 00:00:29,040 Speaker 2: This week, we're very pleased to welcome Matt Harvey, global 5 00:00:29,080 --> 00:00:32,080 Speaker 2: head of middle market direct lending with p JIM, which 6 00:00:32,120 --> 00:00:34,640 Speaker 2: oversees more than two hundred million dollars in private credit. 7 00:00:34,680 --> 00:00:36,880 Speaker 3: How are you, Matt, I'm great, terrific to meet you 8 00:00:36,960 --> 00:00:38,800 Speaker 3: both this morning for the listeners. 9 00:00:38,800 --> 00:00:40,720 Speaker 2: Matt's been with p GM's in two thousand and three, 10 00:00:40,800 --> 00:00:44,599 Speaker 2: originally doing private placements before moving to PGM Capital Partners, 11 00:00:45,240 --> 00:00:47,639 Speaker 2: where he focused on middle market mezzanine before moving into 12 00:00:47,680 --> 00:00:49,639 Speaker 2: the direct linding role in twenty eighteen. So I think 13 00:00:49,640 --> 00:00:52,040 Speaker 2: it's safe to say we've got a pros pro today 14 00:00:52,080 --> 00:00:54,600 Speaker 2: on the pod. So I'm ready to jump in. James, 15 00:00:54,640 --> 00:00:55,560 Speaker 2: do you want to take us off here? 16 00:00:55,640 --> 00:00:57,160 Speaker 1: Yeah, great to have you on the show, Matt. Private 17 00:00:57,200 --> 00:00:59,960 Speaker 1: credit's obviously getting all the attention these days, and direct 18 00:01:00,040 --> 00:01:02,560 Speaker 1: lending is a huge part of that. Not that long ago, 19 00:01:02,680 --> 00:01:04,760 Speaker 1: the middle market corporate loans department was one of the 20 00:01:04,800 --> 00:01:06,959 Speaker 1: most boring parts of the shop. No one wanted to 21 00:01:07,000 --> 00:01:09,080 Speaker 1: talk to you. But then we had the golden age 22 00:01:09,080 --> 00:01:11,520 Speaker 1: of private credit, when everyone wanted to be your friend. 23 00:01:11,920 --> 00:01:13,720 Speaker 1: Now it seems to be the most feared part of 24 00:01:13,760 --> 00:01:16,959 Speaker 1: global finance, has growing concern that something we just can't 25 00:01:17,080 --> 00:01:20,160 Speaker 1: see in private markets will blow up the entire financial system. 26 00:01:20,480 --> 00:01:22,440 Speaker 1: But Matt, you've been doing this for a while, and 27 00:01:22,440 --> 00:01:24,280 Speaker 1: you're based in Chicago, the home of the so called 28 00:01:24,319 --> 00:01:27,720 Speaker 1: middle market lending. How worried should we be really about 29 00:01:27,720 --> 00:01:28,080 Speaker 1: all this? 30 00:01:29,000 --> 00:01:30,880 Speaker 3: What's a great place to start, because I think setting 31 00:01:30,880 --> 00:01:33,280 Speaker 3: the context for the asset class and the industry is 32 00:01:33,319 --> 00:01:36,560 Speaker 3: really important here, and in many ways, this type of 33 00:01:36,680 --> 00:01:39,360 Speaker 3: lending has been happening for decades. You allude to the 34 00:01:39,360 --> 00:01:43,000 Speaker 3: fact that private credit already is a much broader asset 35 00:01:43,080 --> 00:01:46,560 Speaker 3: class than direct lending alone. Directly lending tends to be 36 00:01:47,160 --> 00:01:51,440 Speaker 3: leverage loans, privately negotiated, more leverage borrowers, but private credit 37 00:01:51,560 --> 00:01:55,280 Speaker 3: generally goes well beyond that, investment grade credit, fixed rate, credit, 38 00:01:55,320 --> 00:01:58,920 Speaker 3: asset based finance, etc. And that brings me back to 39 00:01:59,360 --> 00:02:01,680 Speaker 3: the question of out, why Chicago and why have I 40 00:02:01,760 --> 00:02:04,240 Speaker 3: been doing this for twenty three years? Well, if you 41 00:02:04,280 --> 00:02:07,680 Speaker 3: look at the middle market lending landscape, in the US. 42 00:02:08,000 --> 00:02:11,440 Speaker 3: Chicago really was the capital of middle market lending because 43 00:02:11,480 --> 00:02:15,320 Speaker 3: it financed the industrial heartland of America medium sized companies 44 00:02:15,360 --> 00:02:17,880 Speaker 3: before they were so large that they could access to 45 00:02:17,919 --> 00:02:20,960 Speaker 3: capital markets of Wall Street. And when you look at 46 00:02:20,960 --> 00:02:23,680 Speaker 3: the original players doing that, many of those banks were 47 00:02:23,680 --> 00:02:28,200 Speaker 3: of course in Chicago, but other original players included life 48 00:02:28,200 --> 00:02:32,320 Speaker 3: insurance companies like Crudential and pgm's asset management arm, and 49 00:02:32,400 --> 00:02:36,320 Speaker 3: so over time, what's really changed is the fact that 50 00:02:36,400 --> 00:02:41,120 Speaker 3: we've structured these assets into investor portfolios in a different way. 51 00:02:41,600 --> 00:02:45,280 Speaker 3: But what hasn't changed is fundamental lending to companies, making 52 00:02:45,360 --> 00:02:49,240 Speaker 3: loans for productive use of capital and returning that capital 53 00:02:49,280 --> 00:02:50,280 Speaker 3: the underlying investor. 54 00:02:51,760 --> 00:02:55,079 Speaker 2: Yeah, so I think you had alluded to. The definition 55 00:02:55,120 --> 00:02:57,120 Speaker 2: has definitely broadened out over the last couple years. I 56 00:02:57,160 --> 00:02:58,560 Speaker 2: feel like it used to be the bread and butter 57 00:02:58,639 --> 00:03:00,840 Speaker 2: with direct lending, but now we're starting to talk about 58 00:03:00,880 --> 00:03:04,560 Speaker 2: stress debts, specially finance, real estate, infrastructure lending, the whole 59 00:03:04,600 --> 00:03:07,720 Speaker 2: gamut and mezzanine, which I know you're acutely involved in. 60 00:03:07,800 --> 00:03:11,280 Speaker 2: So I guess what's the scale of the businesses that 61 00:03:11,320 --> 00:03:15,120 Speaker 2: you guys are prospecting, selecting, and ultimately lending to and 62 00:03:15,400 --> 00:03:17,760 Speaker 2: more importantly, you know, why are they turning to you 63 00:03:17,800 --> 00:03:20,000 Speaker 2: guys instead of the public markets, Like, what's the value 64 00:03:20,000 --> 00:03:21,799 Speaker 2: proposition do you guys have for these guys. 65 00:03:22,280 --> 00:03:25,400 Speaker 3: Let's focus on the strategy that I lead, which is 66 00:03:25,440 --> 00:03:28,840 Speaker 3: direct lending, And as generic as that name implies, what 67 00:03:28,880 --> 00:03:33,040 Speaker 3: it really is is leverage loans privately negotiated for companies 68 00:03:33,120 --> 00:03:39,120 Speaker 3: undertaking events, acquisitions, recapitalizations, major major growth financing, et cetera. 69 00:03:39,400 --> 00:03:41,520 Speaker 3: And when we think about the scope of that market, 70 00:03:41,560 --> 00:03:44,080 Speaker 3: it's estimated to be somewhere between two to three trillion 71 00:03:44,240 --> 00:03:48,880 Speaker 3: aum of outstanding capital, which would in many ways rival 72 00:03:48,920 --> 00:03:51,240 Speaker 3: the size of the leverage loan, the syndicated loan market, 73 00:03:51,280 --> 00:03:54,200 Speaker 3: or the high yield credit market. So in and of itself, 74 00:03:54,200 --> 00:03:57,400 Speaker 3: direct lending has become a very large market. Of course, 75 00:03:57,440 --> 00:04:00,840 Speaker 3: the broader private credit asset class would would would greatly 76 00:04:00,920 --> 00:04:05,000 Speaker 3: dwarf that number when you extended further in terms of 77 00:04:05,040 --> 00:04:09,040 Speaker 3: where we focus within that, I think the greatest utility 78 00:04:09,800 --> 00:04:12,840 Speaker 3: is finding these companies that are not so large they 79 00:04:12,880 --> 00:04:19,200 Speaker 3: can efficiently access capital markets and creating a solution for them. Traditionally, 80 00:04:19,240 --> 00:04:23,120 Speaker 3: that solution comes down to private equity sponsored finance, So 81 00:04:23,160 --> 00:04:27,159 Speaker 3: private equity companies are undertaking leverage buyouts, they're acquiring businesses 82 00:04:27,720 --> 00:04:31,400 Speaker 3: private credit, especially James, you alluded to the so called 83 00:04:31,440 --> 00:04:35,440 Speaker 3: golden age post financial crisis, private credit stepped in as 84 00:04:35,520 --> 00:04:41,000 Speaker 3: a suitable finance provider that delivered a value the banks 85 00:04:41,200 --> 00:04:44,600 Speaker 3: typically were not well suited to do higher quantum of loan, 86 00:04:45,080 --> 00:04:49,640 Speaker 3: better execution, certainty, more flexibility, etc. But as the market 87 00:04:49,680 --> 00:04:52,760 Speaker 3: has evolved and grown over time and scale to your point, 88 00:04:53,360 --> 00:04:56,560 Speaker 3: the solution is much broader than that. And what do 89 00:04:56,600 --> 00:04:59,120 Speaker 3: I mean by that? I mean it's accessing now family 90 00:04:59,160 --> 00:05:03,320 Speaker 3: owned companies, corporates, businesses of all shapes and sizes that 91 00:05:03,400 --> 00:05:06,400 Speaker 3: are doing far more than just leverage buyout financing. And 92 00:05:06,440 --> 00:05:09,600 Speaker 3: in that way, what you see in these portfolios starts 93 00:05:09,600 --> 00:05:13,640 Speaker 3: to look like a traditional loan portfolio that in prior 94 00:05:13,720 --> 00:05:16,279 Speaker 3: days might have set on a bank's balance sheet, but 95 00:05:16,480 --> 00:05:20,239 Speaker 3: today is structured and assembled in a way that meets 96 00:05:20,920 --> 00:05:22,719 Speaker 3: longer term investors needs. 97 00:05:23,480 --> 00:05:26,080 Speaker 1: The assumption now there is that because they go into 98 00:05:26,080 --> 00:05:29,760 Speaker 1: private markets, they are in some ways risky a weaka, 99 00:05:30,520 --> 00:05:33,200 Speaker 1: more likely to default, so we'll have to pay in 100 00:05:33,279 --> 00:05:36,279 Speaker 1: kind in terms of that, you know, the servicing of 101 00:05:36,320 --> 00:05:37,679 Speaker 1: the debt. Is that actually true? 102 00:05:38,360 --> 00:05:41,160 Speaker 3: It can be true, but generally it is not. And 103 00:05:41,240 --> 00:05:44,520 Speaker 3: the reason why it is not is because again, the 104 00:05:44,640 --> 00:05:47,680 Speaker 3: same type of company that's raising this capital is the 105 00:05:47,720 --> 00:05:51,360 Speaker 3: same type of company that previously, or in a competitive 106 00:05:51,440 --> 00:05:55,800 Speaker 3: dynamic still today is also entertaining capital from the banks 107 00:05:55,880 --> 00:05:59,359 Speaker 3: and from other lending sources. And so what really is 108 00:05:59,400 --> 00:06:01,920 Speaker 3: the difference. The difference is the form of capital it's 109 00:06:01,960 --> 00:06:05,880 Speaker 3: being provided. It often is longer term in nature, it 110 00:06:05,920 --> 00:06:10,680 Speaker 3: can be delivered with higher execution certainty, and it can 111 00:06:10,760 --> 00:06:14,800 Speaker 3: finance events that go beyond what banks typically would finance. 112 00:06:14,839 --> 00:06:17,560 Speaker 3: What do I mean by that a cross border acquisition 113 00:06:17,720 --> 00:06:20,960 Speaker 3: as an example, a cross border acquisition is riskier than 114 00:06:20,960 --> 00:06:24,040 Speaker 3: a domestic acquisition. So that was my point about it 115 00:06:24,080 --> 00:06:27,719 Speaker 3: can be riskier. But the idea as a sophisticated investor 116 00:06:27,839 --> 00:06:31,360 Speaker 3: is that we identify those risks, we underwrite, and we 117 00:06:31,440 --> 00:06:36,880 Speaker 3: structure the loan package to address those risks, and frankly, 118 00:06:37,080 --> 00:06:40,200 Speaker 3: we price those risks in a return that is greater 119 00:06:40,320 --> 00:06:43,240 Speaker 3: than typically bank loans would earn and therefore is more 120 00:06:43,240 --> 00:06:45,600 Speaker 3: attractive to long term minded investors. 121 00:06:46,000 --> 00:06:48,240 Speaker 1: And then the flip side of that for the borrower 122 00:06:48,400 --> 00:06:51,520 Speaker 1: is that floating rates are probably going to stay high 123 00:06:51,560 --> 00:06:54,200 Speaker 1: for longer they're playing the biggest bread on that than 124 00:06:54,240 --> 00:06:58,200 Speaker 1: they would in the publicly, broadly syndicated market. That potentially 125 00:06:58,279 --> 00:07:00,280 Speaker 1: makes them it makes it hard of them to if 126 00:07:00,279 --> 00:07:01,800 Speaker 1: that deck is going to be more expensive over time, 127 00:07:01,880 --> 00:07:03,240 Speaker 1: Is that going to put them in a toughest spot 128 00:07:03,240 --> 00:07:04,800 Speaker 1: and now they're going to be more default as a 129 00:07:04,800 --> 00:07:06,240 Speaker 1: result of that higher debt service. 130 00:07:06,800 --> 00:07:09,200 Speaker 3: It's a great question, But I think the context of 131 00:07:09,240 --> 00:07:13,640 Speaker 3: that implies the borrowers unaware of that dynamic. And in 132 00:07:13,680 --> 00:07:20,240 Speaker 3: our case, these are sophisticated, mature companies that are professionally managed, 133 00:07:20,440 --> 00:07:23,520 Speaker 3: and they undertake a quite serious level of financial planning 134 00:07:24,360 --> 00:07:27,840 Speaker 3: when they raise capital for these even driven transactions. So 135 00:07:28,080 --> 00:07:30,000 Speaker 3: the first thing I would say is it's self selecting. 136 00:07:30,200 --> 00:07:34,200 Speaker 3: The companies understand the debt service capability they have, therefore 137 00:07:34,240 --> 00:07:38,160 Speaker 3: their own leverage tolerance, and we provide a form of 138 00:07:38,240 --> 00:07:42,120 Speaker 3: capital that suits that tolerance. Our job as the investor 139 00:07:42,160 --> 00:07:45,440 Speaker 3: then is to course underwrite the risks and the things 140 00:07:45,440 --> 00:07:49,480 Speaker 3: that could take that off track. Let's say, those risks, 141 00:07:49,480 --> 00:07:51,800 Speaker 3: to your point, can be rising base rates, those risks 142 00:07:51,800 --> 00:07:55,400 Speaker 3: could be economic cycle and again that's where it comes 143 00:07:55,440 --> 00:07:58,960 Speaker 3: back to the package of the load and the structure 144 00:07:59,000 --> 00:08:02,440 Speaker 3: to ensure we're well protected for those risks i e. 145 00:08:02,560 --> 00:08:07,800 Speaker 3: Covenants in terms collaterals and leans and so forth, whereas 146 00:08:07,840 --> 00:08:10,720 Speaker 3: the company also gets the capital they deserve. The one 147 00:08:10,760 --> 00:08:14,200 Speaker 3: point I want to make that is really really important 148 00:08:14,960 --> 00:08:18,520 Speaker 3: when speaking to private equity owned issuers, but especially frankly 149 00:08:18,640 --> 00:08:22,680 Speaker 3: non sponsored own issuers. We're quite transparent. We don't compete 150 00:08:22,840 --> 00:08:26,040 Speaker 3: on price with the banks. We don't have deposits, we 151 00:08:26,080 --> 00:08:29,520 Speaker 3: don't provide short term capital. We provide longer term capital 152 00:08:29,960 --> 00:08:32,520 Speaker 3: to fund events. What does that mean for the issuer? 153 00:08:32,960 --> 00:08:38,000 Speaker 3: It means it should be in a very accreative trade 154 00:08:38,000 --> 00:08:41,040 Speaker 3: for the equity. So they are consciously paying a higher 155 00:08:41,080 --> 00:08:43,880 Speaker 3: margin on the debt to do something they otherwise would 156 00:08:43,920 --> 00:08:46,719 Speaker 3: not be able to do. And over time they make 157 00:08:46,760 --> 00:08:49,600 Speaker 3: that capital constructive and they deliver a higher equity return. 158 00:08:49,920 --> 00:08:53,400 Speaker 3: And that is the fundamental premise of our argument. And 159 00:08:53,440 --> 00:08:56,240 Speaker 3: that's why it's a solution, not just a short term loan. 160 00:08:56,920 --> 00:08:59,240 Speaker 2: And when you talk about so the attractive terms, at 161 00:08:59,280 --> 00:09:02,240 Speaker 2: least from the investors standpoint. If I'm looking right now 162 00:09:02,240 --> 00:09:06,040 Speaker 2: in the terminal, the highield index looks like seven and 163 00:09:06,040 --> 00:09:09,319 Speaker 2: a half percent yield worst PA three B one credit 164 00:09:09,360 --> 00:09:11,480 Speaker 2: quality maturities just under five years. If I look at 165 00:09:11,520 --> 00:09:14,280 Speaker 2: the leverage loan index looks like eight and a half percent, 166 00:09:15,440 --> 00:09:17,560 Speaker 2: and it looks like credit qualities B one, B two. 167 00:09:17,559 --> 00:09:21,240 Speaker 2: Can you kind of frame like what what's attractive for 168 00:09:21,360 --> 00:09:24,240 Speaker 2: PGM is what relative to these benchmarks? And then what's 169 00:09:24,320 --> 00:09:27,200 Speaker 2: the sort of tenor you guys are looking at? And 170 00:09:27,640 --> 00:09:29,680 Speaker 2: obviously you're not going to do thirty years? I don't think, 171 00:09:30,120 --> 00:09:30,839 Speaker 2: so what not. 172 00:09:30,840 --> 00:09:31,680 Speaker 3: In this risk category? 173 00:09:31,720 --> 00:09:31,920 Speaker 2: Yeah? 174 00:09:32,000 --> 00:09:33,840 Speaker 3: Right, well, I think you hit the nail on the 175 00:09:33,880 --> 00:09:37,640 Speaker 3: head one. For us, we start with this idea that 176 00:09:37,679 --> 00:09:41,760 Speaker 3: we can over time deliver a relative value premium or 177 00:09:41,760 --> 00:09:45,760 Speaker 3: excess return to our investors versus comparable liquid credit. And 178 00:09:45,760 --> 00:09:49,880 Speaker 3: you just named high yield and syndicated loans. Syndicated loans 179 00:09:49,920 --> 00:09:52,720 Speaker 3: is the closest cousin to direct lining because think of 180 00:09:52,760 --> 00:09:56,640 Speaker 3: it quite simply, it's the same loan and structure. It's 181 00:09:56,720 --> 00:09:59,559 Speaker 3: just not rated by the agencies from a credit rating perspective, 182 00:09:59,720 --> 00:10:02,679 Speaker 3: it's not syndicated by the investment banks, it doesn't have liquidity. 183 00:10:02,760 --> 00:10:06,960 Speaker 3: It's all bilaterally privately negotiated on a more discrete basis. 184 00:10:07,520 --> 00:10:11,120 Speaker 3: So where does that excess return form? It forms from 185 00:10:11,280 --> 00:10:15,640 Speaker 3: two primary components. Number one is the ill liquidity premium 186 00:10:16,040 --> 00:10:19,160 Speaker 3: that is the entry spread and price of the loan 187 00:10:19,200 --> 00:10:21,800 Speaker 3: that we would demand. To have an asset that we 188 00:10:21,880 --> 00:10:24,839 Speaker 3: can't readily trade out of, we have to deal bilaterally 189 00:10:24,920 --> 00:10:29,280 Speaker 3: with the issuer that over time has given some level 190 00:10:29,280 --> 00:10:31,839 Speaker 3: of demonstible premium to liquid credit. And you can debate 191 00:10:31,880 --> 00:10:35,280 Speaker 3: what that is a lot of agencies and research houses 192 00:10:35,600 --> 00:10:38,400 Speaker 3: would say plus or minus one hundred basis points above 193 00:10:38,440 --> 00:10:43,600 Speaker 3: a comparably rated liquid loans. On top of that, and 194 00:10:43,760 --> 00:10:46,319 Speaker 3: especially as you then go deeper and deeper into the 195 00:10:46,360 --> 00:10:51,040 Speaker 3: middle market where naturally more inefficiency exists and the ability 196 00:10:51,080 --> 00:10:54,480 Speaker 3: to therefore provide a solution that's valuable to borrower becomes 197 00:10:54,520 --> 00:10:57,560 Speaker 3: more and more profound, we think as a manager, we 198 00:10:57,559 --> 00:10:59,800 Speaker 3: can deliver other forms of premium. What are those things? 199 00:11:00,040 --> 00:11:03,760 Speaker 3: Selection premium covenants in terms of reprice risk, So again 200 00:11:03,800 --> 00:11:05,839 Speaker 3: we don't buy the asset and then have to live 201 00:11:05,880 --> 00:11:08,720 Speaker 3: with that duration risk as credit quality changes. We have 202 00:11:08,760 --> 00:11:13,120 Speaker 3: a covenant that protects ourselves from underperformance and we can 203 00:11:13,160 --> 00:11:15,440 Speaker 3: do something about it. We can reprice the loan, we 204 00:11:15,440 --> 00:11:19,320 Speaker 3: can ask for additional collateral, we can restructure the security package, 205 00:11:19,320 --> 00:11:22,880 Speaker 3: et cetera, et cetera. And then finally you also get 206 00:11:22,920 --> 00:11:25,360 Speaker 3: the idea of as a good credit investor. At the 207 00:11:25,440 --> 00:11:26,800 Speaker 3: end of the day, what we have to do is 208 00:11:26,840 --> 00:11:30,319 Speaker 3: avoid losses. Losses are asymmetric. We don't participate in upside. 209 00:11:30,679 --> 00:11:34,480 Speaker 3: If we can avoid losses at a more durable pace 210 00:11:34,559 --> 00:11:39,800 Speaker 3: than our competitors or comparable liquid credit markets after recoveries, 211 00:11:40,240 --> 00:11:42,720 Speaker 3: that's a form of excess returning of itself. So that's 212 00:11:42,720 --> 00:11:45,360 Speaker 3: really the dynamic we're looking at. To go back to 213 00:11:45,400 --> 00:11:48,439 Speaker 3: the original point you mentioned B two, the average quality 214 00:11:48,480 --> 00:11:52,959 Speaker 3: and leverage loans. We self credit quality rate every transaction 215 00:11:53,040 --> 00:11:57,679 Speaker 3: we do because we're very intently focused on determining true 216 00:11:57,760 --> 00:12:01,199 Speaker 3: relative value, and that can only start then with comparable quality. 217 00:12:01,920 --> 00:12:03,640 Speaker 3: Is it a be two equivalent, is it to be one, 218 00:12:03,679 --> 00:12:05,800 Speaker 3: to be three, et cetera, et cetera. Most of the 219 00:12:05,840 --> 00:12:09,120 Speaker 3: direct landing loan world does live in that B one 220 00:12:09,160 --> 00:12:12,559 Speaker 3: to be three range, though, So that B two context 221 00:12:12,559 --> 00:12:16,000 Speaker 3: that you set, you could say that's property for the 222 00:12:16,040 --> 00:12:17,160 Speaker 3: direct landing universe. 223 00:12:17,760 --> 00:12:19,400 Speaker 1: And what are we talking about in sterns of size 224 00:12:19,400 --> 00:12:22,640 Speaker 1: Because we went from middle market I was always thinking 225 00:12:22,720 --> 00:12:25,400 Speaker 1: for around one hundred million dollars, and then during the 226 00:12:25,400 --> 00:12:27,600 Speaker 1: golden age of private credit, it shot up to someone 227 00:12:27,600 --> 00:12:29,200 Speaker 1: on this show said it could be a billion dollars 228 00:12:29,240 --> 00:12:32,160 Speaker 1: in size for a middle market or what is your 229 00:12:32,200 --> 00:12:34,160 Speaker 1: expectation for size of transaction? 230 00:12:34,720 --> 00:12:36,760 Speaker 3: Well, I think I think you alluded to it correctly 231 00:12:36,800 --> 00:12:42,240 Speaker 3: that the market segmentation and size has greatly expanded over time, 232 00:12:43,080 --> 00:12:46,319 Speaker 3: and so we would view middle market as the classical 233 00:12:46,400 --> 00:12:48,960 Speaker 3: definition and our view that's twenty five to seventy five 234 00:12:49,040 --> 00:12:54,800 Speaker 3: million of EBITDAH operating profit at the company level. Some 235 00:12:54,840 --> 00:12:57,600 Speaker 3: would say up to fifty million, but it's in that range. 236 00:12:58,200 --> 00:13:01,560 Speaker 3: If you start getting above that, what happens fundamentally is 237 00:13:01,600 --> 00:13:05,040 Speaker 3: you have companies that are of a size and sort 238 00:13:05,040 --> 00:13:08,560 Speaker 3: of issue one's tolerance bect your question James about leverage 239 00:13:08,559 --> 00:13:11,800 Speaker 3: an issue one's quantum that they can start to access 240 00:13:12,280 --> 00:13:15,720 Speaker 3: syndicated loan markets and other forms of capital. And that's 241 00:13:15,760 --> 00:13:17,840 Speaker 3: the market we refer to as either upper mid market 242 00:13:17,920 --> 00:13:19,959 Speaker 3: or large cap, depending on who you ask. It starts 243 00:13:20,000 --> 00:13:23,440 Speaker 3: to get to billion dollars or more financing sizes. Again, 244 00:13:23,640 --> 00:13:27,520 Speaker 3: it's an adjacency to core middle market direct lending because 245 00:13:27,520 --> 00:13:30,400 Speaker 3: it is quite similar and that the fundamental value proposition 246 00:13:30,600 --> 00:13:34,680 Speaker 3: is you're delivering execution certainty in a private format. But 247 00:13:35,360 --> 00:13:38,600 Speaker 3: those are dealing with companies that typically have other access 248 00:13:38,880 --> 00:13:42,080 Speaker 3: to capital markets and therefore it can be a more 249 00:13:42,160 --> 00:13:45,640 Speaker 3: competitive issue with respect to syndicated loans or high yield 250 00:13:45,640 --> 00:13:48,640 Speaker 3: from that perspective, But for US middle market up to 251 00:13:48,640 --> 00:13:51,880 Speaker 3: seventy five million of vibitita very deep. Whether you look 252 00:13:51,920 --> 00:13:54,440 Speaker 3: at the US, Europe or even other developed markets like 253 00:13:54,480 --> 00:13:58,840 Speaker 3: Australia these days, and the general trend is adoption curve 254 00:13:59,640 --> 00:14:03,120 Speaker 3: company sponsored and non sponsored likes of family owned businesses, 255 00:14:03,880 --> 00:14:07,520 Speaker 3: understanding that accessing this form of capital has a lot 256 00:14:07,520 --> 00:14:11,560 Speaker 3: of utility and for event driven transactions in particular, it 257 00:14:11,559 --> 00:14:12,520 Speaker 3: can be very valuable. 258 00:14:12,880 --> 00:14:15,800 Speaker 1: And you directly lend us in is a bilateral loan 259 00:14:16,000 --> 00:14:18,560 Speaker 1: and you just hold it on your balance sheet till 260 00:14:18,559 --> 00:14:19,080 Speaker 1: it matures. 261 00:14:19,120 --> 00:14:22,920 Speaker 3: Is that the bilateral lending at primary issue. Yes, we 262 00:14:23,800 --> 00:14:27,320 Speaker 3: tend to not, at least the mandating the portfolios tends 263 00:14:27,320 --> 00:14:30,040 Speaker 3: to not be to buy so called secondary positions or 264 00:14:30,040 --> 00:14:32,880 Speaker 3: trade loans. That's not the idea. Our value as in 265 00:14:32,880 --> 00:14:38,040 Speaker 3: creating the bilateral lending relationship and frankly controlling the quality 266 00:14:38,080 --> 00:14:41,160 Speaker 3: of that relationship, i e. We want to be the 267 00:14:41,240 --> 00:14:43,360 Speaker 3: sole or lead or co lead. We want to be 268 00:14:43,360 --> 00:14:46,120 Speaker 3: a significant lender in the company's capital structure, because we 269 00:14:46,160 --> 00:14:50,520 Speaker 3: want to have influence and voice as you look at 270 00:14:50,680 --> 00:14:54,040 Speaker 3: where the assets go. Well, these days, like many of 271 00:14:54,040 --> 00:14:57,880 Speaker 3: our competitors, we've put those into investment portfolios that are 272 00:14:57,920 --> 00:15:00,160 Speaker 3: suited to the long term owner of the asset. What 273 00:15:00,160 --> 00:15:03,040 Speaker 3: do I mean by that? We have commingled funds with 274 00:15:03,120 --> 00:15:06,680 Speaker 3: your usual mix of institutional investors, insurance companies, pension funds, 275 00:15:06,720 --> 00:15:11,520 Speaker 3: sovereign wealth, etc. Etc. We have product that ends up 276 00:15:11,560 --> 00:15:15,280 Speaker 3: being a little bit more structured where investors through an 277 00:15:15,360 --> 00:15:19,080 Speaker 3: SMA account can have a more customized or bespoke mandate, 278 00:15:19,120 --> 00:15:22,480 Speaker 3: i e. I'd like to be overweight US loans versus 279 00:15:22,560 --> 00:15:25,680 Speaker 3: Europe or the opposite, or I'd like to buy a 280 00:15:25,680 --> 00:15:28,400 Speaker 3: certain part of the loan structure, not all the loan structure. 281 00:15:29,040 --> 00:15:31,440 Speaker 3: And then, of course these days you also have the 282 00:15:31,440 --> 00:15:34,320 Speaker 3: private wealth and retail market which tends to for the 283 00:15:34,360 --> 00:15:37,520 Speaker 3: most part come through this format called the perpetual non 284 00:15:37,520 --> 00:15:42,960 Speaker 3: traded BBC, so multiple outlets for that loan collateral that 285 00:15:43,280 --> 00:15:45,760 Speaker 3: ultimately is driven by the idea of a long term 286 00:15:45,840 --> 00:15:49,960 Speaker 3: owner of the asset. Understanding there's an ill liquidity premium 287 00:15:50,000 --> 00:15:53,320 Speaker 3: that can be generated over time and in a way 288 00:15:53,360 --> 00:15:57,320 Speaker 3: that then is the product is structured to suit the investors' tolerances. 289 00:15:57,680 --> 00:15:59,320 Speaker 1: How do you mount the loans over time? 290 00:16:00,520 --> 00:16:05,080 Speaker 3: We mark, first of all, with a combination of fundamentals 291 00:16:05,120 --> 00:16:08,720 Speaker 3: and technicals. So fundamentals are your traditional loan coverage metrics 292 00:16:08,760 --> 00:16:11,720 Speaker 3: that a bank underwriting department might look like. Look at 293 00:16:11,720 --> 00:16:14,640 Speaker 3: no differently now, loan to value interest coverage ratio, is 294 00:16:14,720 --> 00:16:18,160 Speaker 3: the company compliant with debt service and therefore on a 295 00:16:18,280 --> 00:16:23,680 Speaker 3: cruel and so forth. And then we also overlay the technicals. 296 00:16:23,680 --> 00:16:26,880 Speaker 3: And what do I mean by that, Well, loan spreads change, 297 00:16:27,280 --> 00:16:30,280 Speaker 3: market prices change, and the syndicated loan market. So we 298 00:16:30,400 --> 00:16:32,520 Speaker 3: have to have a mechanism to convey that under the 299 00:16:32,520 --> 00:16:34,920 Speaker 3: price the private asset, even if the private asset is 300 00:16:34,960 --> 00:16:39,000 Speaker 3: not trading. How we do that? Best practice, we believe 301 00:16:39,200 --> 00:16:43,120 Speaker 3: is using independent third parties. We hire valuation firms and 302 00:16:43,160 --> 00:16:47,160 Speaker 3: investment banks and they surveil our entire portfolio at every 303 00:16:47,240 --> 00:16:50,560 Speaker 3: valuation mark that you can trade upon and effect and 304 00:16:50,720 --> 00:16:51,920 Speaker 3: produce an independent price. 305 00:16:52,280 --> 00:16:55,040 Speaker 1: The concern, though, in the private credit market right now, 306 00:16:55,080 --> 00:16:58,880 Speaker 1: is that those marks aren't accurate, and the independent valuation 307 00:16:58,960 --> 00:17:01,720 Speaker 1: provider is a pay to give you a decision, and 308 00:17:01,880 --> 00:17:04,240 Speaker 1: that deals that you know should have been marked down 309 00:17:04,280 --> 00:17:06,960 Speaker 1: haven't been marked down? Is that a concern that you share? 310 00:17:07,280 --> 00:17:10,360 Speaker 1: Are you confident in where these things are being marked. 311 00:17:11,119 --> 00:17:14,679 Speaker 3: I think it's a legitimate question that starts with the 312 00:17:14,800 --> 00:17:19,760 Speaker 3: understanding of the manager's valuation practices. It is not generally 313 00:17:19,760 --> 00:17:22,160 Speaker 3: a concern that I share because I see the rigor 314 00:17:22,200 --> 00:17:26,520 Speaker 3: at which we approach valuing the portfolio. And as I said, 315 00:17:26,560 --> 00:17:29,240 Speaker 3: if you take the view that you have an entirely 316 00:17:29,280 --> 00:17:32,879 Speaker 3: independent governance model and valuation in other words, the PM 317 00:17:33,000 --> 00:17:35,879 Speaker 3: cannot influence the mark which is the case with our 318 00:17:35,960 --> 00:17:39,520 Speaker 3: valuation policy, then what you have to do is you 319 00:17:39,600 --> 00:17:42,199 Speaker 3: have to operate from the context of I have an 320 00:17:42,200 --> 00:17:44,600 Speaker 3: illiquid asset that I can't trade and make a market 321 00:17:44,640 --> 00:17:47,520 Speaker 3: price on every day. On the one hand, but I 322 00:17:48,080 --> 00:17:50,840 Speaker 3: know the component's of valuation, the components of valuation, or 323 00:17:50,880 --> 00:17:53,440 Speaker 3: the fundamental performance of the asset, And it comes down 324 00:17:53,440 --> 00:17:56,000 Speaker 3: to is the loan covered or impaired? Right, And you 325 00:17:56,040 --> 00:18:00,000 Speaker 3: can determine that based on along set of fundamental metrics. 326 00:17:59,840 --> 00:18:03,560 Speaker 3: And then, irrespective of the fundamentals, is the price to 327 00:18:03,560 --> 00:18:06,760 Speaker 3: issue cap on today's market wider or tighter? And that's 328 00:18:06,800 --> 00:18:09,359 Speaker 3: where the technical overlay comes into play, where you have 329 00:18:09,440 --> 00:18:11,560 Speaker 3: to adjust the price, and you have to recognize that 330 00:18:12,200 --> 00:18:16,560 Speaker 3: based on broader market prices. At the end of the day, though, 331 00:18:16,880 --> 00:18:20,919 Speaker 3: I think most investors, they clearly want to ensure your 332 00:18:21,000 --> 00:18:25,200 Speaker 3: valuation practices have integrity, and depending on the structure, that 333 00:18:25,280 --> 00:18:28,680 Speaker 3: may be more or less important in the sense that 334 00:18:29,119 --> 00:18:32,160 Speaker 3: you can either enter or exit at that price versus 335 00:18:32,200 --> 00:18:34,840 Speaker 3: the traditional commingled fund which is draw down and everybody 336 00:18:34,840 --> 00:18:38,600 Speaker 3: buys a cost and they're on the same basis. But 337 00:18:39,080 --> 00:18:41,840 Speaker 3: also to understand the liquidity premium I mentioned before, the 338 00:18:41,880 --> 00:18:45,320 Speaker 3: ability for the manager to generate excess return through the 339 00:18:45,359 --> 00:18:48,720 Speaker 3: various management techniques we have that develops over time, and 340 00:18:48,800 --> 00:18:50,959 Speaker 3: the whole idea is you're not trading the asset. 341 00:18:51,800 --> 00:18:54,560 Speaker 1: And the inequidity premium you mentioned it was plus or 342 00:18:54,600 --> 00:18:59,080 Speaker 1: minus one hundred that's one hundred base point i'm zem 343 00:18:59,280 --> 00:19:05,479 Speaker 1: Ova in liquidity. That's over the equivalent BSL you know, 344 00:19:05,760 --> 00:19:11,360 Speaker 1: spread over SOFA. That has changed considerably since we first 345 00:19:11,400 --> 00:19:13,320 Speaker 1: started talking about it on the show. You know, it 346 00:19:13,359 --> 00:19:17,080 Speaker 1: seems for a leverage deal it was more than two 347 00:19:17,160 --> 00:19:20,159 Speaker 1: hundred basis points last year. I would say, according to 348 00:19:20,200 --> 00:19:22,600 Speaker 1: some of our guests, do you expect it to be 349 00:19:22,720 --> 00:19:27,320 Speaker 1: compressed further as competition increases or market conditions change. 350 00:19:28,160 --> 00:19:31,960 Speaker 3: Well, the interesting perspective on that for me is that 351 00:19:33,160 --> 00:19:35,280 Speaker 3: I'm not sure it has changed. I think it's how 352 00:19:35,359 --> 00:19:39,480 Speaker 3: people frame the ill liquidity premium, so to speak. And 353 00:19:39,880 --> 00:19:42,240 Speaker 3: that's my point about there being multiple components. We talked 354 00:19:42,280 --> 00:19:47,119 Speaker 3: about spread issue spreads. The most notable comparative where you 355 00:19:47,119 --> 00:19:50,080 Speaker 3: can say a B two that's liquid and just got 356 00:19:50,119 --> 00:19:52,359 Speaker 3: syndicated by a major investment bank with the credit rating 357 00:19:52,960 --> 00:19:55,600 Speaker 3: issued at let's say three twenty five. That's a prevailing 358 00:19:55,640 --> 00:19:59,159 Speaker 3: price today and I could issue that or by that 359 00:19:59,240 --> 00:20:04,080 Speaker 3: comparable private B two at four to twenty five. What else, though, 360 00:20:04,119 --> 00:20:07,359 Speaker 3: forms the excess return, and sometimes I think it gets 361 00:20:07,359 --> 00:20:11,359 Speaker 3: conflated with the illoquidity premium. It's the original issue discount price. 362 00:20:12,680 --> 00:20:15,280 Speaker 3: It's the ability to have call premium or friction costs 363 00:20:15,359 --> 00:20:18,960 Speaker 3: or refinance and therefore extend duration of the asset. It's 364 00:20:19,000 --> 00:20:21,800 Speaker 3: the ability to have covenants in terms that allow you 365 00:20:21,840 --> 00:20:26,399 Speaker 3: to reprice risk, i e. Increase the coupon or the 366 00:20:26,440 --> 00:20:30,199 Speaker 3: spread based on risk profile, have an amendment fee if 367 00:20:30,240 --> 00:20:32,280 Speaker 3: the company is looking to do something different than what 368 00:20:32,359 --> 00:20:35,600 Speaker 3: was originally underwritten. There are many different forms of economic 369 00:20:35,680 --> 00:20:37,760 Speaker 3: enhancements that I think, over a long period of time 370 00:20:38,480 --> 00:20:43,240 Speaker 3: go well beyond that sort of binary easily identifiable issue 371 00:20:43,480 --> 00:20:45,159 Speaker 3: spread ILL liquidity premium. 372 00:20:45,520 --> 00:20:48,160 Speaker 2: Yes, I think when we're talking about credit quality and spreads, 373 00:20:48,200 --> 00:20:51,440 Speaker 2: obviously a ton of different sectors that you can play, 374 00:20:51,720 --> 00:20:54,000 Speaker 2: and all of those sectors have different spreads. Right, So 375 00:20:54,960 --> 00:20:58,359 Speaker 2: where you guys overweighted in terms of your book like 376 00:20:58,400 --> 00:21:00,800 Speaker 2: if you're you guys more heavily exposed those to sort 377 00:21:00,840 --> 00:21:03,160 Speaker 2: of smaller construction guys, or you guys have a big 378 00:21:03,200 --> 00:21:06,880 Speaker 2: portfolio consumer staples which would seemingly have less like locality. 379 00:21:07,800 --> 00:21:10,919 Speaker 2: Where are you guys at. 380 00:21:10,280 --> 00:21:14,240 Speaker 3: All the above? I think the principle and credit, especially 381 00:21:14,359 --> 00:21:17,000 Speaker 3: mid market credit and again ILL liquid assets, we've got 382 00:21:17,040 --> 00:21:20,199 Speaker 3: to go manufacture and originate the deal flow. So we 383 00:21:20,280 --> 00:21:23,239 Speaker 3: can't go to the screen and select the asset and 384 00:21:23,320 --> 00:21:26,000 Speaker 3: construct the optimal portfolio top down. We have to do 385 00:21:26,040 --> 00:21:29,880 Speaker 3: that over time with deep origination and all different segments 386 00:21:29,880 --> 00:21:33,040 Speaker 3: of the economy. So what that avails ourselves to is 387 00:21:33,160 --> 00:21:37,800 Speaker 3: broad sector diversification and the principle again that we create 388 00:21:37,840 --> 00:21:41,520 Speaker 3: the value with the liquidity premium and manager technique. And 389 00:21:41,560 --> 00:21:43,720 Speaker 3: where I'm going with that is are in our view 390 00:21:43,960 --> 00:21:46,359 Speaker 3: and It's not always the view of others, but in 391 00:21:46,440 --> 00:21:51,080 Speaker 3: our view you're not very well rewarded for taking a 392 00:21:51,160 --> 00:21:57,240 Speaker 3: significant overweight or underrate model to sector allocation. We don't 393 00:21:57,280 --> 00:22:01,000 Speaker 3: participate in price upside. The best case is part we 394 00:22:01,040 --> 00:22:04,320 Speaker 3: participate fully in priced downside, and so if you're wrong 395 00:22:04,359 --> 00:22:08,879 Speaker 3: on that concentration, the risk reward, frankly is I think punitive. 396 00:22:09,920 --> 00:22:11,960 Speaker 3: What that means in the middle market is we finance 397 00:22:12,200 --> 00:22:17,320 Speaker 3: companies very broadly across the modern economy. You name some 398 00:22:17,400 --> 00:22:20,720 Speaker 3: of the sectors, but these are typically businesses that are 399 00:22:20,720 --> 00:22:25,720 Speaker 3: not hyper cyclical, not capital intensive. So construction would generally 400 00:22:26,119 --> 00:22:29,000 Speaker 3: generally not be a sector we'd allocate too, because that's 401 00:22:29,040 --> 00:22:31,800 Speaker 3: obviously very cyclical, can have low barriers to entry, it 402 00:22:31,800 --> 00:22:35,120 Speaker 3: has all sorts of challenges from a credit standpoint. Consumer 403 00:22:35,160 --> 00:22:39,880 Speaker 3: staples on the other hand, food and beverage, industrial services, 404 00:22:39,960 --> 00:22:44,120 Speaker 3: high value products that tend to be resilient through cycles, 405 00:22:44,160 --> 00:22:48,320 Speaker 3: even if still moderately cyclical, distribution logistics. These are the 406 00:22:48,359 --> 00:22:51,040 Speaker 3: modern backbone of the economy. So these are free cash 407 00:22:51,080 --> 00:22:54,920 Speaker 3: flow businesses that have reasonable demand visibility, and if they 408 00:22:54,920 --> 00:22:58,320 Speaker 3: have some economic cycle risk, we can either address that 409 00:22:58,400 --> 00:23:02,919 Speaker 3: with structure leverage in entry ratios and so forth, and 410 00:23:03,080 --> 00:23:07,320 Speaker 3: or price, but in a broadly diversified portfolio that we 411 00:23:07,400 --> 00:23:13,480 Speaker 3: think is a valuable place to be. Take the example 412 00:23:13,520 --> 00:23:17,280 Speaker 3: of software and the idea of overweighting certain sectors. The 413 00:23:17,359 --> 00:23:21,679 Speaker 3: leverage loan market has overweighted software and an ISSUEECE perspective 414 00:23:21,880 --> 00:23:24,800 Speaker 3: over several years, in part because it was a favored 415 00:23:24,920 --> 00:23:27,840 Speaker 3: leveraged buyout opportunity for private equity, and many of those 416 00:23:27,880 --> 00:23:32,480 Speaker 3: companies are very good company, very valuable businesses. Again, for US, 417 00:23:33,080 --> 00:23:36,400 Speaker 3: we were underweight software, not because we didn't like software frankly, 418 00:23:36,760 --> 00:23:39,120 Speaker 3: or we were so prescient three four or five years 419 00:23:39,119 --> 00:23:41,840 Speaker 3: ago to say, aha, AI is going to disrupt this 420 00:23:42,080 --> 00:23:44,560 Speaker 3: entire sector, which I think can be a bit exaggerated 421 00:23:44,560 --> 00:23:47,560 Speaker 3: to begin with, but it was actually just the principles 422 00:23:47,560 --> 00:23:50,280 Speaker 3: of diversification and the principles of in mid market, we 423 00:23:50,320 --> 00:23:52,800 Speaker 3: need to show the relative value premium. So software, in 424 00:23:52,840 --> 00:23:55,800 Speaker 3: other words, gets overbought and the relative value premium, your 425 00:23:55,920 --> 00:24:00,480 Speaker 3: original point, James, shrinks because the market's more competitive, not 426 00:24:00,720 --> 00:24:03,480 Speaker 3: as attractive as allocating to the boring food and beverage deal. 427 00:24:04,080 --> 00:24:07,600 Speaker 3: Because the illiquidity premium in a diversified portfolio is ultimately 428 00:24:07,640 --> 00:24:08,440 Speaker 3: what we're after. 429 00:24:08,600 --> 00:24:11,800 Speaker 2: So I'll talking about structure. Are you guys heavily just 430 00:24:12,080 --> 00:24:14,679 Speaker 2: right down the middle first lean seems secured or do 431 00:24:14,680 --> 00:24:16,600 Speaker 2: you guys go all the way down to you guys 432 00:24:16,600 --> 00:24:19,400 Speaker 2: have any pick pic toggles in your portfolio? 433 00:24:19,760 --> 00:24:23,440 Speaker 3: Well, it's it's funny. An investor I was with last 434 00:24:23,480 --> 00:24:27,280 Speaker 3: week referred to our portfolio as boring in a good way. Yeah, 435 00:24:27,400 --> 00:24:29,240 Speaker 3: differ credit, and I think that's good for credit to 436 00:24:29,280 --> 00:24:31,280 Speaker 3: your point where we're sort of chuckling about it here, 437 00:24:32,560 --> 00:24:37,399 Speaker 3: but look what this is a first lane senior secured 438 00:24:37,440 --> 00:24:40,359 Speaker 3: loan model in our portfolio. And there are many different 439 00:24:40,359 --> 00:24:43,280 Speaker 3: flavors and variations more broadly than the asset class. But 440 00:24:43,320 --> 00:24:49,120 Speaker 3: our strategy is to not take structure risk or collateral risk, 441 00:24:49,520 --> 00:24:51,720 Speaker 3: and therefore take the risk at the credit level, at 442 00:24:51,760 --> 00:24:57,959 Speaker 3: the company level, and again a broadly diversified portfolio. What 443 00:24:58,000 --> 00:25:00,399 Speaker 3: does that extend to for us? That extends do we 444 00:25:00,480 --> 00:25:05,200 Speaker 3: buy cash pay loans only? There's an idea today that's 445 00:25:05,240 --> 00:25:07,240 Speaker 3: becoming more and more prevalent of you have good pick 446 00:25:07,280 --> 00:25:10,040 Speaker 3: and you have bad pick many issues, especially as you 447 00:25:10,080 --> 00:25:13,560 Speaker 3: go at market. They can get deals done with pick toggles, right, 448 00:25:14,520 --> 00:25:16,600 Speaker 3: and that's very valuable for the issue there's no debate 449 00:25:16,600 --> 00:25:19,600 Speaker 3: about it, and certain companies a certain quality can dictate 450 00:25:19,640 --> 00:25:23,679 Speaker 3: those terms on the marketplace. We generally avoid that because 451 00:25:23,720 --> 00:25:28,120 Speaker 3: again we think the downside is greater than the upside, 452 00:25:28,480 --> 00:25:33,560 Speaker 3: and our model is to produce stable cash income above 453 00:25:33,600 --> 00:25:37,800 Speaker 3: a liquid credit alternative to our investors. And the more 454 00:25:37,840 --> 00:25:40,800 Speaker 3: you introduce things like pic toggles or second leans or 455 00:25:41,080 --> 00:25:44,080 Speaker 3: go down balance sheet on risk, even though at a 456 00:25:44,119 --> 00:25:47,080 Speaker 3: portfolio construction level you could say, well, that generates some 457 00:25:47,160 --> 00:25:52,320 Speaker 3: excess return. From our perspective, that introduces exogenous outcomes to 458 00:25:52,320 --> 00:25:55,840 Speaker 3: the portfolio that our investors did not mandate us to take. 459 00:25:57,000 --> 00:25:59,119 Speaker 2: So with the big rate rise that we saw from 460 00:25:59,160 --> 00:26:01,680 Speaker 2: the PHATO of the last years, I'm assuming you guys 461 00:26:01,680 --> 00:26:06,480 Speaker 2: haven't been exposed to the same level of cyclicality and issues, 462 00:26:06,480 --> 00:26:08,119 Speaker 2: even though we've seen the cost of capital rip for 463 00:26:08,160 --> 00:26:10,040 Speaker 2: a lot of these smaller guys, right. 464 00:26:10,920 --> 00:26:16,280 Speaker 3: We've certainly been exposed. There's really no manager or portfolio 465 00:26:16,520 --> 00:26:19,919 Speaker 3: in this acid class that isn't subject to the dynamics 466 00:26:19,960 --> 00:26:22,680 Speaker 3: of the Federal Reserve money supply, all the technical factors 467 00:26:22,680 --> 00:26:27,560 Speaker 3: that impact credit, and we're no different that way. These 468 00:26:27,600 --> 00:26:30,840 Speaker 3: are floating rate loans typically, and so you do have 469 00:26:30,880 --> 00:26:33,920 Speaker 3: the idea of when central banks are tightening and inflation 470 00:26:34,080 --> 00:26:36,920 Speaker 3: is high, that cost is passed on to the bar 471 00:26:37,560 --> 00:26:41,320 Speaker 3: which actually conversely can be an investor benefit in some ways. 472 00:26:41,359 --> 00:26:45,680 Speaker 3: Right you're not long duration, you're getting natural inflation protected returns. 473 00:26:46,800 --> 00:26:52,720 Speaker 3: And then conversely, when central banks ease and liquidity is rich, 474 00:26:52,840 --> 00:26:56,040 Speaker 3: the issuers get the benefit of that as rates come down. 475 00:26:56,560 --> 00:26:58,679 Speaker 3: So for us, we've lived through that cycle over the 476 00:26:58,720 --> 00:27:02,680 Speaker 3: last four years. Clearly, coming out of COVID, stimulus was high, 477 00:27:02,800 --> 00:27:06,040 Speaker 3: very quickly reversed into a tightening cycle, and the opposite 478 00:27:06,119 --> 00:27:09,359 Speaker 3: has ensued over the last eighteen months. You look at 479 00:27:09,400 --> 00:27:11,960 Speaker 3: the forward curve any day with the new cycle we're in, 480 00:27:12,400 --> 00:27:15,199 Speaker 3: it can change, but generally the market has sort of 481 00:27:15,240 --> 00:27:18,280 Speaker 3: found a sort of plateau and landing level on that. 482 00:27:19,280 --> 00:27:22,560 Speaker 3: We've been doing this leverage lending, that is for almost 483 00:27:22,600 --> 00:27:26,280 Speaker 3: thirty years, over twenty five years, and that means we've 484 00:27:26,320 --> 00:27:30,360 Speaker 3: lived through rate cycles, we've lived through serious economic cycles 485 00:27:30,400 --> 00:27:34,320 Speaker 3: like the financial crisis, and we've seen firsthand the cost 486 00:27:34,359 --> 00:27:37,640 Speaker 3: of excess leverage in the system. We focus on first 487 00:27:37,720 --> 00:27:41,800 Speaker 3: leane senior secured portfolios that are underwritten on the basis 488 00:27:42,000 --> 00:27:45,520 Speaker 3: of cash flow, and the companies again going back to 489 00:27:45,560 --> 00:27:48,040 Speaker 3: that earlier part of the conversation, have the tolerance to 490 00:27:48,119 --> 00:27:52,000 Speaker 3: service that debt through cycles, and when we underwrite that, 491 00:27:52,040 --> 00:27:56,280 Speaker 3: we underwrite for economic cycle, we underwrite for rate rise cycles. 492 00:27:57,200 --> 00:27:59,840 Speaker 3: And if we can assure ourselves that all else equal, 493 00:28:00,080 --> 00:28:02,280 Speaker 3: the loan can continue to be serviced, then we think 494 00:28:02,320 --> 00:28:05,040 Speaker 3: we have a healthy portfolio. And that's been the case 495 00:28:05,080 --> 00:28:07,560 Speaker 3: for the most part with our portfolio over the last 496 00:28:07,560 --> 00:28:12,200 Speaker 3: four years now arguably at least in recent period, benefiting 497 00:28:12,240 --> 00:28:16,760 Speaker 3: from lower rates. Where we see defaults, it's then not 498 00:28:17,080 --> 00:28:20,720 Speaker 3: generally because of those macro cycles around things like interest 499 00:28:20,800 --> 00:28:24,640 Speaker 3: rate movements. That's certainly the modeled objective in the portfolio. 500 00:28:24,680 --> 00:28:26,880 Speaker 3: We want to take those risks out of the portfolio 501 00:28:26,880 --> 00:28:29,040 Speaker 3: for the most part, or at least insulate from those risks. 502 00:28:29,560 --> 00:28:34,440 Speaker 3: It tends to still be those idiosyncratic measures company XYZ 503 00:28:34,840 --> 00:28:39,560 Speaker 3: lost a major customer unexpectedly, regulation or tariffs in that 504 00:28:39,600 --> 00:28:43,040 Speaker 3: particular business model change the risk profile, and that's where 505 00:28:43,040 --> 00:28:45,400 Speaker 3: we really measure the resiliency of companies. 506 00:28:46,160 --> 00:28:48,760 Speaker 1: Well. The default rates then in the portfolio, I mean, 507 00:28:48,800 --> 00:28:53,280 Speaker 1: is it rising you seeing higher than average levels of 508 00:28:53,640 --> 00:28:58,400 Speaker 1: non payment or companies you know, not able to cover 509 00:28:58,440 --> 00:29:00,160 Speaker 1: the just basic interest. 510 00:29:00,080 --> 00:29:01,880 Speaker 2: Saying, but asking for can I get a covenant? 511 00:29:01,960 --> 00:29:07,400 Speaker 3: Yeah, waiver here, ask for forgiveness, not permissionate exactly, No, generally, 512 00:29:07,480 --> 00:29:10,320 Speaker 3: look and I can't comment on specifics and anyone fun 513 00:29:10,400 --> 00:29:12,840 Speaker 3: but what I can tell you is, again, having done 514 00:29:12,840 --> 00:29:17,480 Speaker 3: this over twenty five years now at PGM, we see 515 00:29:17,520 --> 00:29:20,320 Speaker 3: an environment that I would characterize as normal from a 516 00:29:20,320 --> 00:29:25,360 Speaker 3: default rate perspective today. And I emphasize the word normal 517 00:29:25,400 --> 00:29:27,760 Speaker 3: because I think most of us appreciate in the last 518 00:29:27,800 --> 00:29:31,280 Speaker 3: decade we've had a non normal, abnormally low default rate 519 00:29:31,400 --> 00:29:34,800 Speaker 3: cycle that every credit investor in the industry said it's 520 00:29:34,840 --> 00:29:37,880 Speaker 3: going to change. I'm bearish, I just don't know when, right, 521 00:29:37,960 --> 00:29:40,160 Speaker 3: So we have to strut, we have to prepare for 522 00:29:40,200 --> 00:29:42,480 Speaker 3: this in structure for this. I think what's happened is 523 00:29:42,520 --> 00:29:45,080 Speaker 3: in part because of the rate cycle, in part because 524 00:29:45,120 --> 00:29:48,200 Speaker 3: of persistent inflation, in part because of some of the 525 00:29:48,240 --> 00:29:52,680 Speaker 3: more you know, geopolitical issues that every every company in 526 00:29:52,680 --> 00:29:55,000 Speaker 3: the world seems to be dealing with these days. The 527 00:29:55,000 --> 00:29:57,560 Speaker 3: default rates have returned to normal, I would I would 528 00:29:57,640 --> 00:30:01,480 Speaker 3: characterize it as but in a in the context of 529 00:30:01,520 --> 00:30:05,680 Speaker 3: a portfolio that still shows reasonably strong fundamentals. In other words, 530 00:30:05,720 --> 00:30:08,720 Speaker 3: you're seeing revenue and earnings growth. By and large, you're 531 00:30:08,760 --> 00:30:11,479 Speaker 3: seeing that in the backdrop of a US economy that 532 00:30:11,560 --> 00:30:18,000 Speaker 3: continues to generate deliberate, albeit moderate GDP growth and consumer spending. 533 00:30:19,040 --> 00:30:21,440 Speaker 3: And we have we have all sorts of concerns we're 534 00:30:21,440 --> 00:30:24,040 Speaker 3: credit investors, but overall, I would say we're in a 535 00:30:24,120 --> 00:30:28,520 Speaker 3: normal default environment for a single B quality style portfolio. 536 00:30:28,760 --> 00:30:30,360 Speaker 1: As long as the wall goes on there there seems 537 00:30:30,360 --> 00:30:33,160 Speaker 1: to be more risk of much high oil prices that's 538 00:30:33,160 --> 00:30:36,520 Speaker 1: going to feed through across the board to fuel increases. 539 00:30:36,680 --> 00:30:40,400 Speaker 1: You know, we're seeing four dollars a gallon gas, which is, 540 00:30:40,560 --> 00:30:42,640 Speaker 1: you know, higher than it's been for a while. But 541 00:30:42,720 --> 00:30:45,840 Speaker 1: then you've got potential supply chain issues. You've got, you know, 542 00:30:45,880 --> 00:30:48,680 Speaker 1: the consumer coming under stress. I know your consumer staples 543 00:30:49,320 --> 00:30:52,760 Speaker 1: is where you focus, but it must have some potential 544 00:30:52,840 --> 00:30:55,200 Speaker 1: to riffle across the portfolio if it goes on. 545 00:30:55,520 --> 00:30:59,040 Speaker 3: Sure, that's absolutely right. I think that you know, the 546 00:30:59,400 --> 00:31:02,080 Speaker 3: biggest thing worry about as credit investors, the so called 547 00:31:02,120 --> 00:31:05,280 Speaker 3: stackflation scenario that hasn't been in scope for a long 548 00:31:05,280 --> 00:31:07,560 Speaker 3: time other than briefly maybe two years ago. You could 549 00:31:07,640 --> 00:31:10,440 Speaker 3: argue it is in scope again today, and so we 550 00:31:10,480 --> 00:31:14,880 Speaker 3: need to underwrite portfolios to manage through that type of 551 00:31:14,920 --> 00:31:20,880 Speaker 3: a cycle. There's no question rising oil prices, supply chain 552 00:31:20,960 --> 00:31:25,160 Speaker 3: disruptions that cause inflation impact the consumer and the consumers 553 00:31:25,360 --> 00:31:28,760 Speaker 3: what greater than seventy percent of USGDP, So there will 554 00:31:28,760 --> 00:31:32,200 Speaker 3: be an indirect effect on all portfolios. I would argue, then, 555 00:31:33,360 --> 00:31:38,480 Speaker 3: is the strategy resilient enough to withstand that cycle in 556 00:31:38,520 --> 00:31:41,280 Speaker 3: the context of in our case, a direct lending firstly 557 00:31:41,320 --> 00:31:44,280 Speaker 3: in senior secured loan that's meant to return cube on 558 00:31:44,360 --> 00:31:48,280 Speaker 3: interest as the primary source of income. I start with 559 00:31:49,280 --> 00:31:53,400 Speaker 3: the first the first area that that type of stress hits. 560 00:31:53,400 --> 00:31:56,080 Speaker 3: It hits the equity of course, and on average our 561 00:31:56,200 --> 00:31:59,080 Speaker 3: loaned enterprise value ratios and these portfolios are thirty to 562 00:31:59,080 --> 00:32:03,440 Speaker 3: forty percent at loan level, so pretty significant equity cushion. 563 00:32:04,440 --> 00:32:06,880 Speaker 3: And it next hits cash flow and the ability to 564 00:32:06,920 --> 00:32:11,800 Speaker 3: service debt, and therefore enter the question of defaults. And 565 00:32:11,840 --> 00:32:13,960 Speaker 3: I think again, if you've started with the idea that 566 00:32:14,000 --> 00:32:17,080 Speaker 3: you're firstly on top of the balance sheet, you have 567 00:32:17,160 --> 00:32:20,200 Speaker 3: integrity and control over the lending structure, i e. The 568 00:32:20,200 --> 00:32:23,800 Speaker 3: company's ability to issue capital or to do things that 569 00:32:23,880 --> 00:32:28,960 Speaker 3: could create more risk or devalue your loan, and you've 570 00:32:29,000 --> 00:32:32,240 Speaker 3: started with the basic, basic premise in lending that it 571 00:32:32,320 --> 00:32:35,840 Speaker 3: all comes back to cash flow. College professor once told 572 00:32:35,840 --> 00:32:38,120 Speaker 3: me cash is king. It's never been more true than 573 00:32:38,160 --> 00:32:41,440 Speaker 3: today in lending, right, And if you have the cash 574 00:32:41,440 --> 00:32:44,440 Speaker 3: flow that can withstand some reasonable economic cycle for some 575 00:32:44,480 --> 00:32:48,920 Speaker 3: period of time, hopefully the lending structures will be will 576 00:32:48,920 --> 00:32:53,520 Speaker 3: not be challenged in a serious way from a default standpoint, 577 00:32:53,640 --> 00:32:56,360 Speaker 3: By and large, you'll have the idiosyncratic issues that eventually 578 00:32:56,960 --> 00:32:59,920 Speaker 3: combine with that macro pressure that increase the default rate, 579 00:33:00,400 --> 00:33:02,800 Speaker 3: but by and large you have portfolios that are well covered. 580 00:33:03,240 --> 00:33:05,720 Speaker 1: The consent also is that not just the default rates 581 00:33:05,720 --> 00:33:07,640 Speaker 1: going out, but it'll say, the recovery rates going down. 582 00:33:07,720 --> 00:33:10,440 Speaker 1: So I'm wondering you from your sect in the middle market, 583 00:33:10,520 --> 00:33:12,840 Speaker 1: do you see the potential to recover a lot less 584 00:33:12,840 --> 00:33:14,520 Speaker 1: in a stressed distress scenario. 585 00:33:15,520 --> 00:33:20,000 Speaker 3: That potential exists for sure when you have a default 586 00:33:20,000 --> 00:33:24,360 Speaker 3: that impacts in a stressed macro scenario, which clearly there's 587 00:33:24,400 --> 00:33:27,120 Speaker 3: a lot of correlation to that. If you have a 588 00:33:27,240 --> 00:33:33,760 Speaker 3: structure or an unnatural need to generate liquidity or to 589 00:33:33,960 --> 00:33:37,360 Speaker 3: seek the exit, seek their recovery at the point of 590 00:33:37,400 --> 00:33:41,840 Speaker 3: heightened stress, you take that risk. Our view is much 591 00:33:41,880 --> 00:33:46,400 Speaker 3: of that stress is cyclical, and therefore it is temporary. 592 00:33:46,440 --> 00:33:49,400 Speaker 3: The question is how long it is temporary measured, but 593 00:33:49,480 --> 00:33:52,880 Speaker 3: it can be temporary. That's our experience over time. And 594 00:33:52,920 --> 00:33:54,560 Speaker 3: if we've done our jobs correctly on the front, and 595 00:33:54,600 --> 00:33:57,920 Speaker 3: it's stuck to our discipline of underwriting credits, we know 596 00:33:58,160 --> 00:34:02,160 Speaker 3: we bilaterally originate. We understand the business models and have 597 00:34:02,360 --> 00:34:05,560 Speaker 3: what I call information advantage or at least information parody, 598 00:34:05,680 --> 00:34:07,760 Speaker 3: because we've gotten to know these businesses and how they 599 00:34:07,760 --> 00:34:09,839 Speaker 3: will cycle, and we've modeled that into the lending. 600 00:34:10,040 --> 00:34:11,960 Speaker 1: It sounds like the message you'll getting from the middle market, 601 00:34:12,120 --> 00:34:15,359 Speaker 1: which according to the Middle Market Association is two hundred 602 00:34:15,400 --> 00:34:18,680 Speaker 1: thousand companies in the US. They'd create over ten trillion 603 00:34:18,719 --> 00:34:22,279 Speaker 1: dollars in revenue, they employ forty eight million people. It 604 00:34:22,280 --> 00:34:24,239 Speaker 1: sounds like the message you're getting right now from that 605 00:34:24,360 --> 00:34:26,760 Speaker 1: segment of the economy is very positive. 606 00:34:27,760 --> 00:34:31,200 Speaker 3: Generally and structurally. Yes, and I'm glad you started with 607 00:34:31,200 --> 00:34:34,319 Speaker 3: those statistics. Those are often the same statistics we look 608 00:34:34,320 --> 00:34:37,560 Speaker 3: at as a cohort. The US middle market's the third 609 00:34:37,640 --> 00:34:40,759 Speaker 3: largest economy in the world and with over two hundred 610 00:34:40,800 --> 00:34:43,480 Speaker 3: thousand issuers. If you then break that down into the 611 00:34:43,600 --> 00:34:48,080 Speaker 3: issuer segment. It's estimated less than ten percent of that 612 00:34:48,360 --> 00:34:51,799 Speaker 3: segment is actually owned by private equitument So the other 613 00:34:51,880 --> 00:34:55,440 Speaker 3: ninety percent plus is a what we call non sponsored, 614 00:34:55,440 --> 00:34:59,520 Speaker 3: but it's it's family owned companies. And those family owned 615 00:34:59,560 --> 00:35:03,319 Speaker 3: companies Buy and Large are looking for capital solutions the 616 00:35:03,360 --> 00:35:07,600 Speaker 3: same way private equity owned companies do. Because one out 617 00:35:07,640 --> 00:35:10,600 Speaker 3: of ten, you take a general role of thumb every year, 618 00:35:10,640 --> 00:35:12,520 Speaker 3: those companies is going to go through some form of 619 00:35:12,520 --> 00:35:16,120 Speaker 3: demographic or structural change and need a form of financing 620 00:35:16,160 --> 00:35:19,360 Speaker 3: that's longer term. And if we can access those businesses 621 00:35:20,000 --> 00:35:23,799 Speaker 3: in the overlay that US economy long term is a 622 00:35:23,880 --> 00:35:26,279 Speaker 3: productive place to invest capital, which of course we think 623 00:35:26,320 --> 00:35:29,239 Speaker 3: it is probably I'll hear in New York because it 624 00:35:29,280 --> 00:35:33,480 Speaker 3: is that is a constructive environment to originate into. And 625 00:35:33,520 --> 00:35:36,440 Speaker 3: then again it comes down to as a manager in privates, 626 00:35:36,719 --> 00:35:40,360 Speaker 3: can you expand the funnel of origination? I e. Just 627 00:35:40,400 --> 00:35:43,320 Speaker 3: simply see more deals and opportunities to select the best 628 00:35:43,560 --> 00:35:46,360 Speaker 3: and to be consistent with your strategy. So we are constructive, 629 00:35:46,920 --> 00:35:50,200 Speaker 3: doesn't mean it won't cycle. It will. Medium sized companies 630 00:35:50,239 --> 00:35:52,440 Speaker 3: buy and Large have a risk profile. It's different than 631 00:35:52,480 --> 00:35:55,560 Speaker 3: a large cap company. We all know that, But again, 632 00:35:55,800 --> 00:35:58,000 Speaker 3: the principle is a lending and how you structure the 633 00:35:58,040 --> 00:36:00,439 Speaker 3: loans and price the loans and deliver the right return 634 00:36:00,480 --> 00:36:04,759 Speaker 3: to your investors that is available, and that becomes I 635 00:36:04,800 --> 00:36:07,440 Speaker 3: think even more profound when you get into the middle market. 636 00:36:07,239 --> 00:36:10,279 Speaker 1: Economy and that private equity segment you mentioned. They are 637 00:36:10,360 --> 00:36:13,839 Speaker 1: quite dependent on the business development companies which are going 638 00:36:13,880 --> 00:36:15,479 Speaker 1: through a lot of stress at the moment as seeing 639 00:36:15,520 --> 00:36:21,400 Speaker 1: outflows from retail holders that stop prices are tanking. You know, 640 00:36:21,440 --> 00:36:25,400 Speaker 1: the cost of funds is going right up to what 641 00:36:25,480 --> 00:36:29,160 Speaker 1: extent is that creating noise, it's affecting what you're doing, 642 00:36:29,560 --> 00:36:31,960 Speaker 1: or is it an opportunity because there'll be more demand 643 00:36:32,000 --> 00:36:32,480 Speaker 1: for capsule. 644 00:36:32,880 --> 00:36:35,840 Speaker 3: I think you have to acknowledge it's both. There certainly 645 00:36:35,920 --> 00:36:38,719 Speaker 3: is a lot more noise every day that comes out 646 00:36:38,760 --> 00:36:41,880 Speaker 3: of those headlines, and I think there you have to 647 00:36:42,480 --> 00:36:49,239 Speaker 3: distinguish between fundamental credit risk and sentiment. And BDCs are 648 00:36:49,320 --> 00:36:53,880 Speaker 3: ultimately structured to allow retail and private wealth investors to 649 00:36:54,000 --> 00:36:58,440 Speaker 3: invest on a semi liquid basis, and we all know 650 00:36:58,560 --> 00:37:00,960 Speaker 3: sentiment can change very quickly in that market for any 651 00:37:01,040 --> 00:37:05,960 Speaker 3: number of reasons, fundamental reasons, personal reasons, price targeting reasons, 652 00:37:05,960 --> 00:37:09,040 Speaker 3: et cetera, et cetera. So what that has done, I 653 00:37:09,080 --> 00:37:16,080 Speaker 3: think is created an environment where from a credit entry perspective, 654 00:37:16,560 --> 00:37:20,320 Speaker 3: perhaps as a lender, you're a little bit more conservative, 655 00:37:20,360 --> 00:37:22,640 Speaker 3: You're a little bit more rational in terms of your 656 00:37:22,719 --> 00:37:25,960 Speaker 3: view on how to structure the asset, how to price it, 657 00:37:26,000 --> 00:37:30,759 Speaker 3: how to deliver that acceptable illiquidity premium to your investors. Right. 658 00:37:31,680 --> 00:37:36,080 Speaker 3: And so, notwithstanding, private equity does rely i think quite 659 00:37:36,120 --> 00:37:39,719 Speaker 3: heavily on the direct landing market, which increasingly is amplified 660 00:37:39,719 --> 00:37:44,400 Speaker 3: by BDC flows. That market will be there, and like 661 00:37:44,440 --> 00:37:46,799 Speaker 3: other credit markets, it's a question of what is the 662 00:37:46,840 --> 00:37:50,040 Speaker 3: price to issue and is there a higher price today 663 00:37:50,080 --> 00:37:52,319 Speaker 3: than there was or a higher cost rather to the 664 00:37:52,320 --> 00:37:55,520 Speaker 3: issuer than there was two, three or four months ago 665 00:37:55,560 --> 00:37:59,480 Speaker 3: because of that market sentiment. On the other hand, what 666 00:37:59,560 --> 00:38:02,080 Speaker 3: we've seen in over time, and again having run these 667 00:38:02,120 --> 00:38:06,680 Speaker 3: portfolios for over twenty five years, generally, and it's probably 668 00:38:06,760 --> 00:38:13,960 Speaker 3: no surprise if you can sustain ill liquidity tolerance, vintages 669 00:38:14,480 --> 00:38:18,000 Speaker 3: that were entered during periods of capital markets disruption or 670 00:38:18,040 --> 00:38:22,640 Speaker 3: sentiment disruption tend to have shown the more compelling returns. 671 00:38:23,239 --> 00:38:26,400 Speaker 3: Because the market rationalizes a bit. Only the best assets 672 00:38:26,440 --> 00:38:29,799 Speaker 3: get financed, the price of the asset comes back to 673 00:38:29,840 --> 00:38:32,560 Speaker 3: a level that is a little bit more interesting as 674 00:38:32,600 --> 00:38:34,480 Speaker 3: the lender. So I think you're going to see a 675 00:38:34,520 --> 00:38:36,600 Speaker 3: little bit of both frankly, and I think there's a 676 00:38:36,600 --> 00:38:41,080 Speaker 3: price discovery process undertaking the market right now that I 677 00:38:41,080 --> 00:38:44,920 Speaker 3: think will be actually constructive for making new loans to 678 00:38:44,960 --> 00:38:45,880 Speaker 3: these types of companies. 679 00:38:46,239 --> 00:38:48,920 Speaker 1: So this bad blow up, it's kind of creating a 680 00:38:49,360 --> 00:38:53,000 Speaker 1: repricing of risk that maybe got you know, a bit 681 00:38:53,120 --> 00:38:54,799 Speaker 1: over at SKIS in terms of you know that some 682 00:38:54,840 --> 00:38:57,439 Speaker 1: of these loans were maybe not priced according to the risk. 683 00:38:58,080 --> 00:38:59,600 Speaker 3: I think it will have a bit of a chilling 684 00:38:59,640 --> 00:39:02,640 Speaker 3: effect done. The need to deploy capital quickly is the 685 00:39:02,680 --> 00:39:08,480 Speaker 3: way I would frame it, because again even in private credit, 686 00:39:08,960 --> 00:39:11,040 Speaker 3: especially in private credit, you could argue the need to 687 00:39:11,080 --> 00:39:13,680 Speaker 3: originate and find the next deal right depends on m 688 00:39:13,719 --> 00:39:16,640 Speaker 3: and a supply depends on our ability to go identify 689 00:39:16,719 --> 00:39:21,080 Speaker 3: these companies and convince them this capital is suitable. It's 690 00:39:21,120 --> 00:39:25,239 Speaker 3: a long term model. And if you have a sentiment 691 00:39:25,600 --> 00:39:28,840 Speaker 3: driven market that raises a lot of capital very quickly 692 00:39:28,880 --> 00:39:32,240 Speaker 3: and supply is tight, well we know supply and demand 693 00:39:32,239 --> 00:39:34,319 Speaker 3: and what that means on prices. Prices go up, they 694 00:39:34,360 --> 00:39:36,920 Speaker 3: become Richard Inner. We've seen that across credit IG credit 695 00:39:36,960 --> 00:39:40,560 Speaker 3: spreads at twenty five year tights right, so directly is 696 00:39:40,560 --> 00:39:43,840 Speaker 3: no different that way. If that pace of demand for 697 00:39:43,920 --> 00:39:47,960 Speaker 3: capital slows down or finds equilibrium again, then I would 698 00:39:48,000 --> 00:39:51,600 Speaker 3: argue all else equal, that's a good entry point because 699 00:39:51,760 --> 00:39:54,400 Speaker 3: if you're as a manager sticking to your knitting on 700 00:39:54,560 --> 00:39:57,320 Speaker 3: the types of loans you make, the price is probably 701 00:39:57,560 --> 00:39:59,960 Speaker 3: found equilibrium in a way that maybe's a little more attractive. 702 00:40:00,440 --> 00:40:02,600 Speaker 1: What about outside the US there it seems to be 703 00:40:02,600 --> 00:40:05,839 Speaker 1: a lot more interested in Europe up until the war 704 00:40:05,920 --> 00:40:08,959 Speaker 1: when it's sort of cooled a bit. But European direct 705 00:40:09,040 --> 00:40:12,760 Speaker 1: lending is popular. It's it's apparently, you know, better spreads 706 00:40:12,800 --> 00:40:15,239 Speaker 1: and less risk according to the guys that are doing it, 707 00:40:15,280 --> 00:40:15,759 Speaker 1: was you'll view. 708 00:40:16,200 --> 00:40:18,720 Speaker 3: We do have a European mid market direct lending practice 709 00:40:18,760 --> 00:40:22,480 Speaker 3: as well. Although pip's known as an American firm, we 710 00:40:22,560 --> 00:40:27,000 Speaker 3: have over fifty investment professionals and five offices across Europe. 711 00:40:27,040 --> 00:40:30,239 Speaker 3: It's we've been on the ground there for decades and 712 00:40:31,160 --> 00:40:36,120 Speaker 3: our view is the fallowing one. Technically speaking, you can 713 00:40:36,120 --> 00:40:38,920 Speaker 3: always find periods where Europe or US is in or 714 00:40:38,960 --> 00:40:42,480 Speaker 3: out of favor in comparison to the other right e 715 00:40:42,600 --> 00:40:44,960 Speaker 3: spreads are a little wider, risks a little lower, et cetera, 716 00:40:45,000 --> 00:40:48,560 Speaker 3: et cetera. Generally, though the market principles are the same. 717 00:40:49,400 --> 00:40:52,840 Speaker 3: You have a large and growing middle market economy that 718 00:40:52,960 --> 00:40:56,759 Speaker 3: is seeking capital solutions away from banks. It's even more 719 00:40:56,840 --> 00:41:00,120 Speaker 3: the case across the continent that those companies are are 720 00:41:00,160 --> 00:41:03,799 Speaker 3: still private and either not owned by private equity, have 721 00:41:03,960 --> 00:41:07,200 Speaker 3: likely not ever considered a direct ending or private credit 722 00:41:07,200 --> 00:41:10,080 Speaker 3: option away from the banks. But that's changing, and so 723 00:41:10,120 --> 00:41:14,680 Speaker 3: the penetration curve is increasing. Therefore, it's the market's less mature, 724 00:41:15,360 --> 00:41:17,919 Speaker 3: it's slightly less competitive, although I would say it's still 725 00:41:17,960 --> 00:41:22,440 Speaker 3: very competitive. And right now the European sentiment is you 726 00:41:22,520 --> 00:41:28,200 Speaker 3: can't get moderately wider spreads for the same risk profile, 727 00:41:28,239 --> 00:41:30,840 Speaker 3: the issure, same point of leverage, same types of terms, 728 00:41:30,840 --> 00:41:33,680 Speaker 3: et cetera, et cetera. Now the trick in Europe, of course, 729 00:41:33,719 --> 00:41:36,080 Speaker 3: it's very heterogeneous, as you know, and you have to 730 00:41:36,120 --> 00:41:40,840 Speaker 3: have localized origination teams that know how to develop these relationships, 731 00:41:40,920 --> 00:41:47,040 Speaker 3: track companies, structure loans across any individual country in the 732 00:41:47,080 --> 00:41:50,040 Speaker 3: Eurozone that's suitable to what we're trying to achieve at 733 00:41:50,080 --> 00:41:54,680 Speaker 3: the portfolio level big picture opportunities similar It's less mature though, 734 00:41:54,719 --> 00:41:57,320 Speaker 3: and so we see the pace of growth actually being higher, 735 00:41:57,360 --> 00:41:59,359 Speaker 3: and right now I would agree it happens to be 736 00:41:59,520 --> 00:42:01,600 Speaker 3: slightly wider spread environment at. 737 00:42:01,600 --> 00:42:05,719 Speaker 1: Entry, and even given the bigger macro exposure that we're 738 00:42:05,719 --> 00:42:08,399 Speaker 1: going to get from the Iron, well, you think that 739 00:42:08,640 --> 00:42:13,000 Speaker 1: this interest in European private credit will remain as strong. 740 00:42:13,760 --> 00:42:17,080 Speaker 3: It's going to be tested, for sure. It's that much 741 00:42:17,120 --> 00:42:20,560 Speaker 3: closer to some of those issues. And the biggest corollary, 742 00:42:20,600 --> 00:42:23,520 Speaker 3: of course was Ukraine, and in twenty twenty two that's 743 00:42:23,520 --> 00:42:27,600 Speaker 3: where I mentioned tactically you'll see sometimes the opposite ofcr 744 00:42:27,760 --> 00:42:32,640 Speaker 3: Us was generally more in favor than than Europe. Having 745 00:42:32,680 --> 00:42:37,760 Speaker 3: said all that, I think the implications of ongoing conflict 746 00:42:37,800 --> 00:42:41,360 Speaker 3: in Iran, as you alluded to early earlier, for the 747 00:42:42,000 --> 00:42:47,799 Speaker 3: broader economy, its oil prices and inflation. Europe obviously will 748 00:42:47,800 --> 00:42:51,000 Speaker 3: be impacted by that, but so will US companies. And 749 00:42:51,040 --> 00:42:53,799 Speaker 3: so I come back to the idea that you have 750 00:42:53,880 --> 00:42:59,560 Speaker 3: a deep set of attractive, resilient, healthy metal market businesses 751 00:42:59,560 --> 00:43:02,439 Speaker 3: many and you being a little bit more export oriented, right, 752 00:43:04,400 --> 00:43:08,080 Speaker 3: and the adoption curve of those companies is earlier days 753 00:43:08,080 --> 00:43:10,919 Speaker 3: in the US, and that means the opportunity to lend 754 00:43:10,920 --> 00:43:14,920 Speaker 3: constructively in theory big picture is we think really attractive 755 00:43:15,800 --> 00:43:19,279 Speaker 3: the cycle question. You probably have to evaluate that deal 756 00:43:19,320 --> 00:43:22,319 Speaker 3: by deal, in country by country across Europe, and there 757 00:43:22,320 --> 00:43:23,480 Speaker 3: could be a quicker impact. 758 00:43:23,680 --> 00:43:27,080 Speaker 1: Is there a country you par ticly like now in Europe? 759 00:43:27,360 --> 00:43:32,000 Speaker 3: We like the entire Western European economy really, I would 760 00:43:32,040 --> 00:43:35,840 Speaker 3: say generally you'll see leverage lending, in particular being the 761 00:43:35,840 --> 00:43:39,239 Speaker 3: so called beer drinking countries Northern Europe, which tend not 762 00:43:39,320 --> 00:43:43,799 Speaker 3: always tend to have more prescribed slightly stronger creditor rights 763 00:43:43,800 --> 00:43:48,560 Speaker 3: than the wine drinking countries. But we think that's a 764 00:43:48,640 --> 00:43:51,200 Speaker 3: bit of a dated reference. And when we look at 765 00:43:51,200 --> 00:43:54,680 Speaker 3: our opportunity set, some of our most productive origination teams 766 00:43:54,719 --> 00:43:56,919 Speaker 3: are in Milan, I Madrid because those economies are growing 767 00:43:57,080 --> 00:43:59,759 Speaker 3: space takes Spain, for example, fastest growing economy in Europe 768 00:44:00,120 --> 00:44:03,040 Speaker 3: couple of years. On the other hand, take Germany. What 769 00:44:03,080 --> 00:44:05,080 Speaker 3: we like about Germany is you have this idea of 770 00:44:05,080 --> 00:44:08,960 Speaker 3: the middle stand company, which which sort of correlates to 771 00:44:09,000 --> 00:44:12,040 Speaker 3: the same point you made about the US massive middle 772 00:44:12,080 --> 00:44:15,759 Speaker 3: market economy. Not that many companies have accessed private credit 773 00:44:15,840 --> 00:44:21,080 Speaker 3: yet well run stable businesses. And you know, as the 774 00:44:21,400 --> 00:44:23,920 Speaker 3: as the largest economy in Europe, it's actually the fourth 775 00:44:24,000 --> 00:44:27,719 Speaker 3: largest issuer of direct clending paper. Why is that, Well, 776 00:44:27,880 --> 00:44:30,880 Speaker 3: that to me is structural based on bank competition and 777 00:44:30,920 --> 00:44:33,480 Speaker 3: cultural norms, and that's changing, and that's changing in a 778 00:44:33,520 --> 00:44:35,080 Speaker 3: really interesting way for direct lenders. 779 00:44:35,600 --> 00:44:37,840 Speaker 1: And you're doing all industries there is it mostly staples 780 00:44:37,880 --> 00:44:38,600 Speaker 1: as you were doing in the. 781 00:44:38,680 --> 00:44:42,400 Speaker 3: US, same approach from a sector standpoint as the US. 782 00:44:43,160 --> 00:44:46,760 Speaker 3: The one notable difference might be healthcare in the US. Again, 783 00:44:46,840 --> 00:44:50,080 Speaker 3: we you know, as I said before, our model it's 784 00:44:50,120 --> 00:44:53,200 Speaker 3: not there are different models to be to be clear, 785 00:44:53,520 --> 00:44:57,960 Speaker 3: our model is to not take exogenous risk in the portfolio, 786 00:44:58,000 --> 00:45:01,360 Speaker 3: and what I mean by that is to un identifiable 787 00:45:01,360 --> 00:45:03,960 Speaker 3: and controllable risk as much as possible. Healthcare in the 788 00:45:04,000 --> 00:45:07,960 Speaker 3: US is, of course highly regulated and legislative driven. We 789 00:45:08,040 --> 00:45:10,880 Speaker 3: call it stroke of pin risk. You have the insurance 790 00:45:10,920 --> 00:45:14,919 Speaker 3: company private pay model, which is critical to the profitability 791 00:45:14,960 --> 00:45:18,000 Speaker 3: of many healthcare operators in the US. In Europe, of course, 792 00:45:18,040 --> 00:45:21,400 Speaker 3: you have socialized healthcare in a way that provides a 793 00:45:21,440 --> 00:45:24,120 Speaker 3: little more stability and visibility to how the system at 794 00:45:24,200 --> 00:45:27,120 Speaker 3: least works and makes money. So we may, for example, 795 00:45:27,120 --> 00:45:29,040 Speaker 3: we have tactical differences. We may take a little more 796 00:45:29,040 --> 00:45:31,160 Speaker 3: healthcare risk in Europe than the US for that reason, 797 00:45:32,160 --> 00:45:34,600 Speaker 3: But overall it's the same approach and the same principles. 798 00:45:35,000 --> 00:45:37,319 Speaker 1: When you look across the globe, all the stuff you're doing, 799 00:45:37,400 --> 00:45:40,440 Speaker 1: that what's the single best credit market opportunity you think 800 00:45:40,480 --> 00:45:41,840 Speaker 1: for the next let's say twelve months. 801 00:45:42,239 --> 00:45:44,920 Speaker 3: We see the value through cycles, and so we are 802 00:45:45,000 --> 00:45:48,120 Speaker 3: never one to say time entry here or there. I 803 00:45:48,120 --> 00:45:50,880 Speaker 3: would say, though, buy and large, simply because it's the 804 00:45:50,920 --> 00:45:54,160 Speaker 3: supplied demand dynamics, which is the one thing that's sort 805 00:45:54,160 --> 00:45:58,200 Speaker 3: of irrefutable. Europe is less mature, Australia's even less mature. 806 00:45:58,640 --> 00:46:00,719 Speaker 3: If you have origination teams on the ground that can 807 00:46:00,800 --> 00:46:04,359 Speaker 3: access under right manage the credit through cycles, I think, 808 00:46:04,480 --> 00:46:06,000 Speaker 3: just like we saw in the US over the last 809 00:46:06,000 --> 00:46:09,200 Speaker 3: ten years, that's a pretty constructive place to invest in 810 00:46:09,200 --> 00:46:12,520 Speaker 3: private credit if you're willing to take depending on where 811 00:46:12,520 --> 00:46:15,120 Speaker 3: the investor sets the currency risk or the offshore risk, etc. 812 00:46:15,760 --> 00:46:19,359 Speaker 1: So best relative value in Europe and Australia in terms 813 00:46:19,400 --> 00:46:22,200 Speaker 1: of a global direct lending platform. 814 00:46:23,000 --> 00:46:26,320 Speaker 3: That's right, But again, seventy percent of the markets the 815 00:46:26,400 --> 00:46:31,440 Speaker 3: US and the US is a thriving and a powerful 816 00:46:31,480 --> 00:46:33,960 Speaker 3: economy that you want to be invested in. So it 817 00:46:34,000 --> 00:46:37,719 Speaker 3: depends on the investor of tolerance and maturation curve of 818 00:46:37,719 --> 00:46:38,759 Speaker 3: each of those markets. 819 00:46:39,080 --> 00:46:42,120 Speaker 1: Great Steff Matt Harvey, headed ret Lending at PGM Private Capital, 820 00:46:42,160 --> 00:46:43,320 Speaker 1: Thank you so much for joining. 821 00:46:43,200 --> 00:46:44,920 Speaker 3: Us on the Credit Edge pleasure. 822 00:46:44,960 --> 00:46:46,799 Speaker 1: Thank you and of course very grateful to make going 823 00:46:46,840 --> 00:46:49,080 Speaker 1: theer from Bloomberg Intelligence. Thank you for joining us. Today's 824 00:46:49,200 --> 00:46:51,960 Speaker 1: handing me back for more credit market and ours is 825 00:46:51,960 --> 00:46:53,719 Speaker 1: and insight. Read all of Matt's great work on the 826 00:46:53,719 --> 00:46:56,840 Speaker 1: Bloomberg Terminal. Bloomberg Intelligence is part of our research department, 827 00:46:57,000 --> 00:46:59,920 Speaker 1: with five hundred analysts and strategists working across all markets. 828 00:47:00,239 --> 00:47:03,080 Speaker 1: Coverage includes over two thousand nequarties and credits and outlooks 829 00:47:03,080 --> 00:47:06,000 Speaker 1: on more than ninety industries and one hundred market indices, 830 00:47:06,040 --> 00:47:09,600 Speaker 1: currencies and commodities. Please do subscribe to the Credit Edge 831 00:47:09,640 --> 00:47:12,359 Speaker 1: wherever you get your podcasts. We're on Apples, Spotify and 832 00:47:12,400 --> 00:47:15,640 Speaker 1: all other good podcast providers, including the Bloomberg Terminal at 833 00:47:15,680 --> 00:47:19,120 Speaker 1: bpod Go. Give us a review, tell your friends, or 834 00:47:19,120 --> 00:47:23,600 Speaker 1: email me directly at Jcrombieight at Bloomberg dot net. I'm 835 00:47:23,640 --> 00:47:25,520 Speaker 1: James Cromby it's been a pleasure having you join us 836 00:47:25,520 --> 00:47:39,880 Speaker 1: again next week on the Credit edge.