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00:00To get started, I wanted to ask actually about spreads.
00:02So investment-grade bonds and high-yield bonds are at historically low spreads.
00:06And the question is, are they potentially going to widen in this year?
00:10And more importantly, if they don't, are investors mispricing risk?
00:14So potentially widen? Sure, why not?
00:16You know, I think realistically, I think we'll maybe break it into the component parts.
00:21You know, from the investment-grade standpoint, I think we entered this morning about 72 basis points,
00:25which is basically one basis point from multi-decade tights, right?
00:29But I think on investment-grade, really, it's the LDI or the duration liability manager investor
00:34that's really kind of keeping that market afloat.
00:37And so if you look at aggregate yield just because of where rates are, right,
00:40and we're north of 5% in terms of yield to worst,
00:43there's room for certainly investment-grade to stay tight so long as rates stay high.
00:49If rates come down for some reason, if we get some sort of recessionary dynamic,
00:53then you can see rates, or excuse me, spreads widen on that basis.
00:55But, you know, where we are now, I think it's more of a rates-driven market.
00:59High yield is a totally different animal.
01:02Right now, I think we're kind of call it 260-ish, somewhere in that neighborhood in terms of spread.
01:07If you exclude the worst 5% in terms of the widest yielders, you're actually inside of 200 basis points.
01:13That is historically tight, more so than investment-grade.
01:16That's a market that's really dependent upon continued low volatility, continued momentum in equities.
01:22So I think there is room for high yield to underperform on that basis,
01:25just because so much of the market is consolidated at kind of 200 basis points and tighter.
01:30But, again, it's kind of a macro-climate dynamic.
01:33And, Rob, can you speak a bit about the hyperscaler impact on just where risk is right now?
01:38Sure. I hate to sound a little bit wishy-washy, but I've never been more bullish on the tech space.
01:45There is no AI bubble, and there's not going to be an AI bubble.
01:49And if we're thinking about whether or not this crowd is willing to buy more bonds,
01:56well, the ones who are selling the bonds are the Mount Rushmore of credit.
02:01Alphabet, Microsoft, Amazon, Meta.
02:07I'm not worried whatsoever, and, quite frankly, very few people are.
02:12I actually want you guys to revote on what asset classes you want to be invested in, because you're lying.
02:19Of course you want to be invested in the hyperscalers.
02:21You're only 4%.
02:22You're only 100s of billions of bonds have been bought at enormous oversubscribed levels
02:30all across the globe in multi-currencies.
02:33There's really not much to be fearful of.
02:36And, quite frankly, I think, like, when we talk about the baseball analogy,
02:40that, like, we're just in the bottom of the third inning, we're not even close to that.
02:43We're warming up right now.
02:45The amount of growth that you're going to see in the AI space over the next handful of years
02:50is going to be, I think, well beyond what consensus is.
02:53You're starting to see flavors of that right now.
02:56The equity markets are reacting to that.
02:58And bondholders are waving in bonds.
03:00I think you're going to see that theme continued.
03:03And so much.
03:04I was going to say, for those of you who've heard Rob speak before, I mean, that might be a
03:08record time
03:08to get to the Mount Rushmore statement.
03:11But, so tick off your bingo cards for that one.
03:14We've got that one settled.
03:15But go ahead.
03:15Sorry.
03:16Lots of excitement here, obviously, about the AI infrastructure build out.
03:19And so when we think about risks in the coming years, so much of that has to do with the
03:23health
03:23of the consumer, especially for a lot of leveraged finance borrowers.
03:26So far, so good.
03:27But there's a lot of question marks of what the future holds.
03:30So, Jody, we'd love your take on that.
03:31So, I think the key here is that the consumer continues to be resilient.
03:36And we hear that over and over.
03:37And every time we run our travel survey, we are shocked to see how people are still planning on traveling.
03:43Now, how they're borrowing to travel is key.
03:46Because 63, 64 percent of those that we just surveyed said that they're either using credit cards or buy now,
03:53pay laters.
03:53So, that's a substantial amount of people who are using that to go on vacation, which is not, you know,
04:00your everyday expense.
04:02When you think about the fact that leisure, you know, right after the pandemic, everybody was spending, everybody had extra
04:08cash.
04:09People were getting rebates, checks from the government so that they were taking it and then going to the casino.
04:14That isn't what's happening here.
04:16And so, we are seeing a bit of a bifurcation right now between the lower income and the higher income
04:21consumers.
04:21And we actually just did a note looking at our travel survey, segmenting it out.
04:25And if you look at the lowest income people who plan on prioritizing vacation this year, those who are planning
04:33on increasing spending, it actually went down from what we did in November.
04:38And those are at the highest echelon are planning to spend more and have actually already increased their budget.
04:43So, that's just an indication of the fact that we are seeing a bit of two different stories going on.
04:49That K-shape is very much alive right now.
04:52And then, of course, one of the biggest open questions right now is interest rate policy.
04:56So, for our last poll of the day, you know, Goldman Sachs says we're going to have cuts.
05:00But what do you all think?
05:02So, please go ahead and vote.
05:04Will the next movement be a cut or a hike?
05:06And we'll get back to that answer in a few minutes.
05:09Where's number three for neutral?
05:11The next time something changes.
05:14And so, I wanted to ask you all, though.
05:18So, there are a lot of borrowers who really banked on interest rates going down.
05:23And there's a lot of very over-levered capital structures, especially from the 2020-2021 timeframe.
05:28And if there ends up being a hike, what does this mean for those borrowers and for credit markets overall?
05:35Oof.
05:36All right.
05:36Well, I guess it depends on the borrower, right?
05:39I mean, I think hikes in and of themselves for most borrowers probably don't mean a heck of a lot,
05:43right?
05:43Unless you've got debt coming due.
05:45But it's also, I think, really important when you start talking about interest rate policy.
05:49We're only talking about a very small part of the curve, right?
05:52So, the reaction function of what the rest of the curve does is much more important in terms of versus
05:57what the Fed does.
05:58So, if they're hiking because there's inflation policy or inflation in the market and people are anticipating longer-term inflation,
06:04so the longer end of the curve is up, that certainly is going to impact sort of borrower behavior and
06:09sort of how that flows through the market.
06:10But the hiking of itself I don't think is particularly meaningful in terms of how borrowers react, with the exception
06:17of, obviously, on the floating rate side when we're talking leveraged loans or private markets, and I'm sure that's been
06:22a big topic here today as well.
06:24But, you know, that's the component of the market where you really have to think about their response function.
06:28And there, I think, you know, leveraged loans, by and large, have largely extended, so you're not really super exposed
06:34at this point.
06:36New, weaker borrowers have mostly moved into the private credit market.
06:39That would be the space where I'd probably watch for, you know, a little bit of squishiness.
06:44Unfortunately, you know, we're seeing some of that right now.
06:46And, again, we've heard people talk about some of the Saspocalypse stuff, which I know Rob is big on as
06:51well.
06:52You know, that's a space where we can start to see some problems.
06:55But, again, it really just depends in terms of the sponsor-led deals, who's going to cut checks and that
06:59sort of thing.
07:00So you can navigate, but I think that's the part of the market where I'd be looking to if, you
07:05know, monetary policy is going to get more restrictive.
07:07And I think just to build on that, if you look in my sector, for example, which is all the
07:12companies that borrowed during COVID just to stay afloat because they weren't allowed to operate,
07:16so many of them are in such a better spot now because they've refinanced, they've pushed out their maturities.
07:21And so when you look at it, you don't have that, quote-unquote, maturity wall right now that we're seeing
07:25that we saw maybe a few years ago.
07:28And so knowing that, it gives them a little bit more breathing room.
07:31Now, I think the key, though, is that so many of the companies have done a good job in terms
07:35of refinancing, pushing out debt.
07:37But then there are the stragglers that if things go south, the markets might not be as open to letting
07:43them borrow cheaply,
07:44and they can't necessarily afford to pay higher rates.
07:46So I think that's something that we're watching is those lower tier, you know, the single B and lower names,
07:52a lot of the names that, you know, get swept up in this and really get hurt.
07:56And, I mean, just to piggyback on that, I mean, not to steal the show from you,
08:00there's a little bit of a bifurcation, right, certainly where you do have those weakest borrowers who've maybe already been
08:04through an LME or two, right?
08:06And what we are seeing increasingly, and this is independent of rates, right,
08:10they're just falling over the ledge at this point, right, because they've already been through LME one, maybe LME two,
08:14and they can't get there anymore, but everybody else in the market right now,
08:18the markets, as Rob alluded to earlier, absolutely wide open.
08:22So at least in this current climate, it doesn't really matter what the Fed does.
08:26And so let's see what the audience thinks the Fed will do.
08:29Ooh.
08:30A cut?
08:30Ooh, interesting.
08:31Okay, so a much more favorable environment for some of these heavily indebted borrowers,
08:36but we will have to see.
08:37Still lots of questions over inflation and such.
08:39See, if we offered hold, I'm sure hold would have been noted for the next panel.
08:46So I want to take this back to the AI infrastructure buildup because every debt market is being tapped so
08:52heavily for this.
08:53And the expectation, as people have talked about earlier today, is to just see that ramp up, right?
08:58We're going to see more and more debt to build out AI data centers and buying chips and things like
09:02that.
09:03But will demand actually keep up with supply?
09:07Like, is there enough demand from investors to keep doing this?
09:09And, Rob, I think you have very strong opinions on this.
09:11Yeah.
09:12I think it's...
09:13Think about the Rushmore.
09:14It's pretty clear.
09:16That's where people are traveling, mind you.
09:17You know, we're hearing different adjectives, you know, unprecedented, you know, unheard of, record.
09:27You know, the type of demand that we're seeing for AI infrastructure, it's somewhat mind-boggling.
09:36These numbers are so enormous, it's hard for people to get their hands around.
09:40And that's why access to capital is so critical.
09:42Some of what we're seeing, though, may be a little bit of front-loading.
09:46Everyone's trying to get as much done as possible, as soon as possible,
09:52because they want to capitalize on the monetization upside as early as they can.
09:59I actually think it's going to take a few years.
10:00It's probably not going to be until 2028, until we see an inflection point on adjusted free cash flow
10:07turning positive again for most of these companies.
10:10The beauty, though, as you go up the curve in terms of credit quality,
10:16is that they have lots of triggers to pull.
10:19If you're a high-yield company, there's not a lot of savings that you can take away from, say, cutting
10:25dividends or share buybacks.
10:28But take a look at what the new paradigm that we're living in now is.
10:32Alphabet not only announced an $80 billion equity raise, if you weren't checking your Bloombergs this morning,
10:37it actually upsized it this morning to $84.75 billion.
10:42Companies that are issuing equity are unlikely to be buying back a lot of stock over the next year or
10:47two.
10:48And what were most of these hyperscalers doing for the last handful of years?
10:51They had so much cash.
10:53All they could do is pay dividends and buy back stock.
10:55So pouring it into cash flow generating assets makes a ton of sense.
10:59So one of the ways you could actually save money, regardless of where rates are,
11:04is you can reduce your shareholder returns.
11:06That's not going to be through dividends.
11:08It's going to be steady.
11:08But that's going to be through lower share buybacks.
11:11As you go down the curve, I do think there's a potential problem in high yield.
11:16Like Noel said, right now, the market for funding, it doesn't really matter.
11:20If you have an ongoing business, these bankers out on the left-hand side before,
11:25they'll figure out a way to get somebody to buy it.
11:27Like Rob Cohen said, you just sort of price it right.
11:30When they were asked, you know, are you full on these names?
11:34Are people getting full?
11:35No one's ever full on anything.
11:36It's all about price.
11:37You price something cheap enough, you're going to buy it.
11:40So the buy side always wants to say that they're full until they can get something a little
11:44cheaper.
11:44So to me, there's so many levers to pull, at least when it comes from a hyperscale perspective,
11:51being able to raise money in the private markets, the public markets, alternative currencies.
11:55Now, all of a sudden, you know, you throw in these massive equity potential raises,
12:01which are, to me, are purely opportunistic.
12:03It just says demand is continuing to far outweigh supply, both in terms of fundamentals as well
12:12as in terms on the investment side.
12:14Is that come with more bonds, we want to buy them, and everyone wants to say that they're
12:18too tight and they say we'll buy more.
12:20And one interesting thing is I think the reason why some of these AI deals have done so well
12:25is because there is a lack of acquisitions.
12:27And I've been hearing for years that next quarter leveraged buyouts will come back.
12:32We saw some very strong green shoots at the start of this year, especially with the EA
12:36buyout and a few other things.
12:38But lately, that died down, although we have seen, you know, the Fertitta-Cesars deal and
12:43also the potential People MGM deal, which are both in the casino sector.
12:47So can you speak to what those deals tell us about the potential for leveraged buyouts coming
12:52back?
12:53So, Paul, this has been quite the week in gaming.
12:58And I think what's so interesting is, as you said, everybody's been saying, oh, yeah, LBOs
13:03are coming back, they're coming back, M&A is coming back.
13:05Now, it has, we have seen M&A between equals, a lot of M&A between equals, some that have
13:11panned out successfully, some that have been a little less so.
13:14Six Flags, for example, is one where they claimed they were going to reduce leverage.
13:18And so far, I'm waiting for when they reach that target that they've pushed out and increased.
13:24And so I think the key with the Caesars and the MGM situations, it's twofold.
13:30Number one, these are companies that have been doing different things to sort of segment
13:35themselves in an industry that is seeing a lot of changes.
13:38You know, there was mention of the prediction markets, or poly market just getting thrown
13:41around last speaker, and that is just indicative of the fact that the industry is changing,
13:47that federally, they are looking at things differently for a very nascent part of the
13:52industry, and that could affect these guys.
13:54And so they're responding.
13:56And more so, for a company like MGM, they can't really delever so much more because
14:01everything's in sale leasebacks.
14:02But what they have been doing is they've been expanding to Osaka.
14:06They tried to expand in New York.
14:07They still have the race, you know, but they decided to pull out to be a little bit more
14:11conservative from a cash perspective.
14:13Caesars has been focusing on deleveraging to sub five times for quite some time and has
14:18been not successful because they haven't been able to grow EBITDA.
14:21So it's not necessarily surprising to us that this is happening.
14:25In fact, we wrote a note a few months ago that talked to this effect that there's going
14:29to be more, especially in the leisure space.
14:31Because this is sort of a later stage indication when you had such a run on the sector, is that
14:37then you start having the M&A to kind of keep the party going longer.
14:40So I'm a tad bit concerned only because it brings up memories of when companies like
14:47this went through large transactions in the past, Caesars in particular, but then there
14:52are a few other names that haunt us.
14:54And I think it's only a matter of time before those deals get announced as well.
14:58And is that a precursor then to some sort of shift in the credit cycle?
15:05I don't know.
15:06I don't think it's going to happen this year, but I do think that people are going to be
15:09watching those deals closely.
15:11And then quickly in my space, I don't see any of that happening.
15:13When you could buy all these structured private deals, you know, all this capital is going
15:19to want to go to things where they have covenants, they have detailed structures where they can
15:26get similar style returns.
15:28So I think in the tech space, that's not a concern at all.
15:32Yeah, and I think covenants is kind of a loose term these days, as we're seeing.
15:35That's true.
15:35Because we are seeing with-
15:37Structure.
15:38Yes, with these names in particular, that lawyers are definitely getting involved in
15:45conversations, and there have been deals in the past that are very, very similar in that,
15:49where they've figured out ways to sort of skirt change of control provisions.
15:52They figured out ways to basically tell creditors that your covenants are worth nothing.
15:59So we're just going to do what we're going to do, and you're just going to have to be
16:02along for the ride.
16:03And Noel, can you speak more broadly to whether you see leveraged buyouts coming back in the
16:07second half of this year, and what could or could not cause that?
16:10Yeah, I want to stay mindful of time, because we've got two and a half minutes left.
16:13So I'll answer it quickly, and I'll say, I kind of look at it from a slightly different
16:17angle, which is to say, part of the catalyst behind, this is the year of the LBO, this
16:23is the year of MBA, was partly driven by, this is the year that PE is finally going to
16:27be able to exit some of their legacy positions and start to recycle cash.
16:31As long as rates are where they are, given where a lot of these capital structures were
16:35funded initially, it's very hard for them to get their numbers out on the back end, which
16:40means that they stay frozen, which means LBOs and M&As themselves stay relatively frozen.
16:46So that'll be my succinct answer to leave you two minutes.
16:50Great.
16:50Well, for these last two minutes, I'd love to just hear from you.
16:53What do you identify as the biggest risk in credit markets coming up?
16:58Wow.
16:59Does he have to pick one, the most important one?
17:03Stagflation, you know, which is probably, you know, it's interesting because even as we're
17:07getting some of the inflationary data out and we have sort of the K-shape economy that Jody
17:12alluded to, you know, Rob's part of the market, given the investments that they're making and
17:16the impacts that it's having on the broader economy, has sort of been keeping everything
17:19afloat.
17:20But if you're getting this sort of mid-three, low-four type inflation number and you do have
17:26a large swath of the market that's not growing, eventually you're going to get people kind
17:31of getting concerned and maybe getting concerned about rate hikes, right?
17:34And that would be this dynamic, which we saw in 2022 and 2023, where people no longer wanted
17:39to own duration, right?
17:40So there was this whole flood out of duration, which then flowed through markets and repriced
17:44everything.
17:44That would sort of be the scenario that I would be most worried about.
17:47And Jody?
17:48So beyond stagflation, I would say underemployment also is a component because what we're seeing,
17:55and this is a conversation that we've had in the Princeton office where Noel and I hang
17:59out, is around the fact that you're not necessarily, I mean, you know, labor is very strong, the labor
18:05market is robust, et cetera, et cetera, et cetera.
18:07But we are seeing that lower parts of the labor market, so lower income individuals, the hiring
18:13is actually pretty strong, but it's sort of mixed on the higher level.
18:16And what I'm mindful of is if we start seeing either unemployment or underemployment, and what
18:22that means when you're then faced with the inflation and the, you know, macro factors such as
18:27geopolitical risk and all the components, never mind the fact that we just have a whole completely
18:31new Fed.
18:32So I think that's, that in a nutshell is basically everything we're dealing with these days, but I think that
18:38is
18:38where I'm sort of watching because people are going to pull back on discretionary, excuse me, discretionary spending.
18:45And when they pull back on discretionary spending, that's, you know, if you're talking 70% of the market is
18:50consumer
18:50spending, 30 to 40% of that is that discretionary component.
18:54That's a big chunk.
18:55And I think the probability of having some major backup is extraordinarily low.
19:00But that being said, access to capital in my world is what's critical.
19:03So if there was some exogenous event, I don't think it's going to be driven by something in my space,
19:07but some, you know, outside event that closes capital markets, that would have a major impact.
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