00:00These are ultimately very strong investment grade credits. And yes, they have a moment, and they have a moment which is where they do need to drive fixed investment. They need to build out the AI infrastructure for all of the growth that's coming. And to do so, they need to borrow. Now, in some cases, some of the opportunities are interesting, but not necessarily all that compelling.
00:23And others, where you are doing secured project finance lending, backed by the data centers that are getting built out with a strong lease to the strong IG tenant, that, in our view, is a very compelling opportunity set. And we've seen some of those opportunities in recent months. We expect that there will be more to come.
00:42And, of course, you're perhaps referring to your meta deal there, Christian. So you are looking for these high-quality tenants in data centers and when you participate in these debt deals. But as you're getting inbounds for different deals, as you're sorting through different things, are there pockets where you say, this is a deal we would never do and kind of raises concerns of froth?
01:02Sure. Yeah. No, there's definitely some of that. Anything that's built on spec. So data centers that are built on spec where there's not clear line of sight into who is going to be the tenant or how is the tenant going to be used it, that is froth.
01:16And there will be money wasted in that space and there will be stranded assets in that space. And so, in our view, much better to take a little bit lower return but still very compelling returns relative to other secondary options in investment-grade credit
01:31where you're close to the project, where you're close to the asset, but you also have a very strong tenant coming into the opportunity.
01:38But, yes, there are those deals out there that are much more spec-like, and there will be more of those to come, and there will be losses in a lot of this space.
01:47Bloomberg put out a story today. Our data shows nearly 100 new zombie companies last month that haven't been able to cover their interest expense with revenue.
01:58Are you worried that this could be the start of a default cycle?
02:04Look, the default cycle is already underway. I mean, we've been talking about that for the better part of this year.
02:09We've got defaults in bank loan space, so that would be below investment-grade bank loans, that are running around 4% over the last 12 months, and that will probably be the case over the course of this year.
02:20And some of the big examples of defaults that we've seen in recent months are part of that default cycle.
02:25So the default cycle is underway, and it will continue into next year. And still, companies are struggling, as you mentioned, with high interest costs.
02:34Yes, rates are coming down. The Fed is bringing rates down. But still, they're a lot higher than they were when a lot of these deals got done.
02:40And at the same time, the growth is not there in a lot of these sectors where people expected growth would be. Tariffs are part of that. The slowdown in labor force growth is part of that.
02:51Slowdown in housing and property is part of that. There are a lot of different reasons why the growth isn't there.
02:56But that combination of rates higher than you expected and growth lower than you expected is creating these zombie companies, and those defaults will continue.
03:04But it's going to be pretty manageable. A 4% or 5% default rate in bank loans is higher than you'd like to see, but manageable.
03:11And if we see something on that order again next year, again, higher than you'd like to see.
03:16There will be winners. There will be losers. But ultimately, nothing that rises to the level of systemic or really challenging the dominant narrative out there in markets.
03:25Christian, it hasn't hurt treasuries. We just showed the 10-year yield at the beginning of the year at 480, and now we're down at 4 even a couple of days last week, even below that level.
03:36Even though we've had these sweeping tariffs from the Trump administration, tax cuts for the wealthy, budget deficits that are continuing to grow and grow and grow,
03:51as well as a tax on the Federal Reserve independence, you would have thought that created a sell America trade, and yet it hasn't happened. Is it still to come?
04:01Well, I think what we're seeing is that inflation is problematic this year. Certainly, there is a tariff pass-through into inflation.
04:09But over time, we have a strong line of sight to inflation coming down, maybe not to the Fed's target of 2% by the end of next year, but getting closer to it by the end of next year.
04:22And so that will allow the Fed to continue to cut rates, and that allows the longer end of the curve, the 10-year part of the curve, to continue to come down like we've seen this year.
04:30And what we've also seen is that a lot of the world is under-invested in fixed income, over-invested in equities, as equities have done extremely well.
04:38And so a lot of the world is looking at rates around 4% in the U.S. that offers really high-quality return, high-quality income.
04:47And then it's not just about treasuries, of course. It's all of the high-quality fixed income opportunities that you see in fixed income, whether that's securitized credit, whether that's agency mortgages, whether that's some investment grade corporate credit as well.
05:00There's a lot of opportunity out there. And a world under-invested in income, a world under-invested in fixed income, is adding at these levels.
05:09Yes, inflation remains a concern, and that is something that we're very focused on, and one cannot be complacent about it.
05:17But it is our fairly strong view that over the course of next year, you start to see inflation continuing to come down, helping the Fed to cut rates over the course of next year.
05:26So, Christian, just listening to you, is it fair that all this hype about a debasement trade, that that's the reason everyone's flocking to gold and Bitcoin, that that narrative was just wrong?
05:34Well, gold and Bitcoin are much, much, much smaller than the stock of fixed income out there.
05:43And so, you know, it doesn't take much buying to drive gold and Bitcoin to higher levels.
05:48I think what's much more relevant is the fact that there are very strong flows into fixed income, given that there are very interesting opportunities in high-quality fixed income.
05:58And, you know, there were fears around, is what you said, debasements, fears around sovereign credit.
06:04And certainly deficits are high, deficits are problematic.
06:07But what we've seen is that there should be some stabilization in the deficit at a high level over the course of this year and into next year.
06:15Not a great place to be, but certainly better than one might have feared earlier this year.
06:20Christian, just talking about the flows into fixed income, this is something Matt and I have discussed a lot,
06:24that you can get these huge bond offerings from the tech giants and IG markets barely change,
06:30that you can have days where there's broader concern in equity markets, but spreads are unmoved.
06:34In private credit, you have this whole new swath of wealth investors coming in, too.
06:38The sheer amount of capital coming in to credit markets,
06:42does that mean that there are some pockets where fundamentals and risks aren't exactly reflected?
06:49Yeah, it's certainly the case that there is a lot of complacency in credit markets,
06:53than there has been for the last couple of years.
06:55What you see is that people who are underinvested in fixed income are, in some ways, in some cases,
07:01being relatively indiscriminate in coming into credit markets.
07:04You see that particularly in the passive space.
07:07In passive credit investing, the more somebody borrows, the more you lend to them.
07:11That is the definition of passive in credit.
07:14And there is a fair amount of that.
07:16Then you also see it in below investment grade, where there's been a demand for higher yields, higher returns,
07:22and there we're starting to see those defaults come in, and that's shaking up some of that complacency.
07:28So, yes, this has definitely been a theme over the course of this year,
07:31as we've seen this emerging default wave that was likely to continue into next year.
07:37That said, if you step back, the broad universe in corporate credit, IG, is in pretty good condition.
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