Let's start with that question of monetary policy.
People are expecting the Fed to keep hiking, at least for a while.
What does that mean for the credit markets you deal with?
Yeah, So we we generally deal with levered credit.
And I think that we are of the view that there are likely to be one more hike,
maybe there's two more hikes. And I think that that in general we're
sort of closer to the end of some hikes than obviously we are to the beginning.
So I think we're coming to the tail end of the hike cycle and and people are
starting to now look at 24 and, you know, when when is the Fed going to cut
and what's going to what what are that what are the indicators they're looking
at that would make them cut? So when I checked it this morning on the
Bloomberg, the spread for high yields, just thick, high yield was something
like above 450 basis points. Where do you expect that to be going?
Is that where we end up or is that going to continue rise?
And so when. Yeah.
So I think you got a big push and pull, which is that base rates are pretty high
and north of 5% and and then you've got spreads that are actually not that wide
and perhaps not representative of the of the risk in the corporate credit market.
And I would actually say that's true for investment grade as well.
I think investment grade is, you know, 140 over plus or minus.
And now yields in the sort of low to mid four hundreds over.
So I think our view is credit spreads are not indicative of risk necessarily.
Yields all in are reasonably wide. So that's the that's the trick.
And I would suspect that you'll see spreads go a little wider, primarily
because we do think you're going to continue to see some margin
deterioration for levered credit, number one.
And number two, we do think we're in a in a bit of a longer sort of higher for
a longer rate environment which which will pressure cash flows as well for
corporates. When I take us through how it works and
credit the mechanics of it, because I've seen some reports that there may be a
delayed response because some companies and this is both for investment grade
but also for high yield or leveraged loans locked in rates, you know, at a
lower rate that's coming due in the next couple of years.
I'm told a fair amount of money is coming due and it may be a little
difficult to get it refinanced. It acceptable levels.
Yes, I'd sort of take that into two pieces.
So in general, you got a bunch of fixed rate bonds, whether that be investment
grade or high yield bonds that were issued at a different moment in time in
the market when the five year and the ten year were significantly lower.
Those fixed rate bonds are a real asset right now in the current rate
environment. I think on the on the second added
spectrum, you've got the loan market, which is a large, large market which is
all anchored on a base rate plus a spread.
And so as that base rates move from 1% to north of 5%, and that's hurt
businesses a lot. So if you think about sort of corporate
balance sheet, you know, an incremental 400 basis points of of cost of leverage
on their debt stack that is loan related has been pretty painful.
The second part of your question is maturities.
Now, it actually happens to be that the sort of quote unquote maturity wall is
reasonably benign in the next year or so.
But as we look forward, if we're if we are living in a kind of longer or I say
higher for longer environment, eventually these companies have to
refinance and eventually that cost of financing is going to be a lot higher.
The only other thing I would say is in some of the instances with the higher
market in the loan market, there are folks who have hedged their rate
exposure from day zero. That also is obviously a real asset
today in today's environment. Not a ton of them, but some of them.
Deb, as we look toward refinancing, has the bargaining power shifted between the
lender and the borrower? There was a report actually just this
week that KKR had to make concessions to lenders to refinance a deal on a Dutch
food company without talking about the specifics of that.
Are you seeing that phenomenon or do you expect it more generally?
We had Covenant lite. Maybe we were going away from that.
Some of these bigger well-known businesses that are large, large
corporate capital structures. There are some covenants and stuff that
are getting put in place when they're being issued through the liquid markets.
But I wouldn't say there's been a huge sea change.
It's gotten better, but I wouldn't say there's tons of covenants.
I think the documentation structures have certainly gotten better, though.
So I think that's one to is the loan and high yield space.
The issuance numbers have been very endemic this year.
So there hasn't actually been a ton of net new issuance.
The third thing I would say is where where there has been,
I'm not sure that it's been a change or there's been continued more balanced
power between the issuer and the provider of capital is in the private
credit markets, which has been open for business.
Unlike the liquid markets and the private credit markets tend to.
Be able to defend better structures and better documentation in general.
And in today's environment, when the liquid markets or the capital markets,
if you will, are are not sort of wide open for issuers.
The private credit providers have been able to step into their shoes and in
many instances in pretty large deals. One of the things we have read about is
a shift away from banks and toward private credit as the banks have to step
back, particularly in light of what happened in March.
People are stepping back. Are you seeing a substantial shift over
to private credit from the banks and other sources?
I would say that shift has happened already over the last several years and
the private credit market is actually, you know, on par or slightly in excess
of the size of the of the loan, the syndicated loan market today.
If you believe sort of what we see in terms of estimates, that growth will
likely continue to increase. And I think one of the big questions
around how quickly it will increase and where it will where will end up landing
is is a little bit a function of how tight credit conditions continue to get
and then how long they stay there, because lending standards have tightened
up. It didn't get tight, as I think people
had estimated the numbers to be significantly more impactful after the
March Regional bank failures. I'm not sure we've seen the full impact
of it yet. So I think that's a that's a that's a
remaining question. But I do think that you'll see that
private credit market continue to grow. And and and it's it's exceeded the size
of the syndicated market. One of what you mentioned earlier,
credit risk. We've had heard a lot of talk by
economists about the recession. It's been predicted for a long time now.
It seems to be getting put off into prediction.
Do you think that the market in particular that spread that we talked
about earlier, is that accurately reflecting what you think of as the
possibility of recession? No.
I mean, if you look at the median, you spread over, I guess if you say
post-crisis and you sort of take out Covid, there's lots of ways one can
slice these numbers. You know, the median higher spread is
north of 500 basis points over that has been in a, you know, 2 to 2 and a half
percent GDP environment. Today, we're in the low to mid four
hundreds in a pick your number on GDP zero.
The estimates are all over the map at 0 to 1 and a half percent.
So so definitionally, you know, that's that's not our par.
Do you position yourself as an investor to be able to buy credit?
Are you expecting essentially prices to come down so they're bargains to be had
out there? Do you are you building up dry powder?
I think I think there's places to add risk right now, because I think that
overall in the loan market and in the high yield market, even in this
securitized credit market in general, yields are sort of 8 to 10%.
So I think in a lower growth environment, with a higher rate
environment, potentially a sustained higher inflation environment, tightening
financial conditions. I actually think in that 8 to 10% zip
code, that's a pretty good place to to to earn yield.
However, I do think that I think credit spreads are not
indicative of it. I think a lot of that yield is coming
from base rates, over 50% of it in most instances.
So I think you kind of got to be a little bit careful in terms of where you
are. And I suspect you're going to have
moments over the next sort of 12 months where there will be some good
amount of volatility. And that volatility can come from a
variety of places. But I think you'll continue to see some
margin degradation. And I think that that probably gives you
some moments to add more risk as well. But I think, you know, short duration,
well-capitalized businesses are a pretty good spot to live in that in that zip
code of 8 to 10%. And finally, a point about you mentioned
anemic issuance, particularly in high yield.
We haven't seen a lot of M&A, certainly not the way we had in the past.
Is that coming back? Because a traditional as I understand
it, a lot of the high yield is coming out of private equity, doing buyouts?
Yeah, I think we're seeing. I think eventually yes is the answer.
I don't think the capital markets are sort of, quote unquote, open for
business yet. I think as you continue to see
volatility subside, you will likely see the M&A pipeline open up a little bit.
But as we sit here today, there's a lot of I think you alluded to this earlier
in one of your questions, but there's a lot of digesting that's still happening
in terms of corporate balance sheets and cash flows.
And and and we haven't quite gotten to the to the very end of it yet, so.
So I do think it'll come back. But I think you also have to sort of see
value volatility continue to be sustained in a bit of a lower level.