00:00Robin Dumar, founder of Park Square Capital. Robin, thanks so much for joining us when you're stopping by in New
00:05York. We always appreciate it.
00:06Thank you, Danny. No, this is great. Great to be with you.
00:08I mean, and what a time. OK, so you have this from Morgan Stanley saying 8 percent default rates.
00:13UBS said that the bear case could be 15 percent default rates in private credit.
00:17What are you actually seeing on the ground? Is there stress right now?
00:21I think what's interesting, if we just look at the facts right now, the leverage loan market, which is probably
00:29the best liquid indicator of value, has traded off maybe two points since the beginning of the year from something
00:37like 97 to something like 95.
00:40Now, within that, what's responsible for most of that drawdown is software, which is probably off closer to 10 points.
00:47So those are liquid marks. They're not signaling a 15 or 8 percent default rate.
00:54They're signaling a bit higher default rates. And we would expect that it's late in a cycle.
01:01We would expect that normally. And then you have the A.I. overlay.
01:04What we're seeing, I think, within software now, even within those liquid marks in the loan market, is a increased
01:12differentiation where the high quality companies initially traded down.
01:16And now, as people do their credit work, they're saying, wow, some of these businesses are extremely defensive, very difficult
01:24to tear out of an organization's enterprise and risky to change.
01:29They may have embedded transactions in them. They may have a regulatory overlay.
01:35That's really tough stuff to change. Those companies are rising to the top.
01:39And things that are more speculative. Remember, we used to talk a bit about ARR financing and non-cash flow
01:45financing.
01:46That stuff looks really vulnerable. So I think it's a differentiation is the theme.
01:51Even if some of them, though, are resistant to change, I feel like clients maybe have a little bit more
01:56pricing power now.
01:59And John Zito in his in the Wall Street Journal story that I'm sure you saw a couple of days
02:03ago said he thinks all of the marks are wrong.
02:05I think it was clarified that he meant in software. Do you have software exposure? And what do you think
02:11about the marks?
02:11So we do have software exposure. We are very selective and we've been credit pickers for 21 years.
02:18I'm now 38 years in the business. And for the first time, I would say my neighbors want to talk
02:23to me about private credit, which should tell you something.
02:25I thought you were going to say you're 38 years old.
02:27Yeah, thank you. Thank you. And look, what I would say is I think there will be vulnerabilities in our
02:35business.
02:35What we've seen through the global financial crisis is the key, I think, to our business and managing risk is
02:42avoiding zeros.
02:43And I think investors lose sight of the fact that in senior lending, you can get zero.
02:49If you're lending to a business which is existentially threatened, you can face a complete wipeout.
02:56And I don't think people have processed that in. So the key is credit picking.
03:02I think another theme of John's comments that I think is very notable is the cultural difference between closed ended
03:11fund managers in private equity and people who are managing these semi liquid vehicles.
03:15A closed end fund can be very patient in the way it deals with holding investments, restructuring investments, following its
03:24money.
03:25These open ended vehicles, it's a real test. We're going through a test for the market.
03:30They offer real advantages to investors, but they come with some risks, which is do the investors understand the liquidity?
03:39And we saw over the last several years, enormous retail inflows into private credit.
03:47We talked about the golden age of private credit. Well, I think it was the golden age of retail fundraising
03:53for private credit.
03:54And now I would tell you, I think now for closed ended drawdown funds now is the golden age, which
04:01is the ability to step into dislocation and acquire assets at great discounts.
04:06And what you're saying, Matt, and I think it's right, a much more lender friendly environment.
04:12Just how discounted has it been? Because we've heard from the blue owls of the world, others saying, yes, we've
04:16been selling our assets to meet redemptions in our BDCs, but we've been selling close to par.
04:21Is that true or are there some real value assets to be had right now?
04:26I think across entire portfolios, that's probably about true.
04:30And I think the the trades took place at near par. There's normal settlement mechanics in these secondary trades, which
04:37may be a bit more of a benefit for the buyers.
04:39But broadly, I think that's accurate. There are more portfolios coming.
04:45Clearly, if you are doing a responsible job of managing these liquid vehicles, you're trying to make sure that you
04:52are dealing with your investors.
04:54They're not entitled to get their money back. I mean, I think I'm sure that the risk factors of these
05:00things, when investors read them, are not pleasing them, because I think the managers have the ability to just literally
05:07stop any redemption.
05:09But this is an investor relations challenge. This is not a structural risk for the economy and all that.
05:15It's an investor relations challenge.
05:17That's an important point to make, because I think a lot of retail investors are worried that it could be.
05:23I don't think so. I think they may have to wait a little bit longer to get their money back.
05:27No, I mean, the fact that it's not a structural risk for the rest of the economy.
05:31Yeah, it is not.
05:31Because there are so many comparisons with 2008, and people are coming on this show and saying, that doesn't make
05:36any sense, because this is not that big.
05:38It's not mortgages.
05:39It's not that big. The total loan market entire complex is three to four trillion.
05:44I mean, that's less than the market cap of some big companies. So this is noise in the overall scheme
05:49of things, I would say.
05:50Do you think, though, for a lot of these companies, they've pegged their next leg of growth on retail, that
05:55retail wealth is what's going to allow them to grow, especially for the big public managers?
05:59I guess part of the issue is the education, to your point, that you often have brokers or wealth advisors
06:05who are second order giving these products to people.
06:07Well, did we do, I mean, Royal We, a good enough job of describing to everyday mom-and-pop investors
06:14exactly what these products are?
06:16I'm not sure. I'm not sure. But it's going to be tested now.
06:21And I think what's interesting is you're seeing a divide.
06:24I think institutional investors do not want to be associated with these funds increasingly.
06:31I think they see themselves as being long, traditional, closed-end fund investors.
06:38And I think we're seeing growing concern with institutional investors in the liquid products because you get involved with the
06:46retail investors.
06:47And it's clear that the flow of capital now is exiting the market.
06:51By the way, at some point, does the flow of capital turn from just a structural headline issue into a
06:56fundamental one?
06:57Are there second order impacts of needing to redeem as you get outflows from more retail-oriented funds?
07:02A hundred percent. And I think actually that is the really interesting question, which is, OK, this is all great.
07:08Yes, there's some redemption pressure. What's the second and third order effects?
07:13And I think they are. A number of these retail-oriented structures will be frozen.
07:21They are not going to be making new investments.
07:24They're going to be prioritizing returning capital.
07:27What happens in a restructuring?
07:30Can you follow your money?
07:32Can you draw – because that's how we protect ourselves ultimately in a restructuring is to write everything down, follow
07:37our money, start over.
07:39Can these complexes do that?
07:41I think it's going to be more challenging to do that.
07:45And so I see a growing divide between the closed-end fund complexes backed by institutional capital and these more
07:52semi-liquid backed by more retail-oriented capital.
07:56And it's a great time to invest now.
07:58I mean, we are very excited.
08:01We have typically in direct lending state out of the U.S. for the last several years.
08:06The market was very retail-oriented and, frankly, commoditized.
08:10That's changing.
08:11It's getting more interesting now.
08:13And we're very excited about, frankly, the direct lending opportunity from today forward.
08:18I'd also point out that closed-ended funds, when you start a new closed-ended fund, you don't have to
08:25deploy the capital right away.
08:26You can deploy it over four years, five years.
08:29And each vintage cleans itself.
08:32It heals itself.
08:33Okay, we had a bad vintage.
08:34People may have done too much software.
08:36You know, the private equity complex and closed-ended funds start again with a clean sheet of paper.
08:42That's not true for these evergreen vehicles.
08:46And so we'll see how, without liquidity, they can heal themselves over time.
08:50It's a really interesting test and challenge.
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