Credit Markets: What's Next?

Macro Credit Outlook & Default Risk:

• Moody's (Richard Kanner) projects the speculative-grade U.S. default rate is unlikely to spike in the near term due to historical data showing a decline in sensitivity between unemployment rate changes and default rates.
• Investment-grade defaults remain low in the current cycle compared to the 1990s and dot-com boom, with rare rapid downgrades (5 notches in 12 months) driven less by leverage and more by economic distress or litigation.
• Mark Rowan (Apollo) argues that despite low immediate default risk, "seeds of default" are present due to stripped covenants, high senior debt levels, and a shift away from interest rate caps on bank debt as LIBOR remains near zero.
• Steve Tannenbaum (Golden Tree) estimates the current high-yield growth spread of 370 basis points is insufficient given an expected 5%+ default rate and 70% loss severity, rendering the high-yield sector unattractive compared to other credit opportunities.
• David Warren (Brevin Howard) asserts that the "easy" credit market phase is over, replaced by a "hard" market requiring origination and active management to navigate the dominance of open-ended mutual funds and ETFs.

Market Structure & Investor Behavior:

• Panelists note that major institutional investors have zero influence over covenant terms in public placements (Publix), as the "marginal buyer" is now a liquidity-seeking ETF or mutual fund that does not negotiate terms.
• Josh Friedman (Canyon) highlights a liquidity mismatch where open-ended funds offer daily liquidity for assets that require 30-day settlement, creating vulnerability during market stress.
• Goldman Tree (Tannenbaum) contrasts this with Collateralized Loan Obligations (CLOs), describing them as stable, rule-based, locked-up vehicles that provide a margin of safety compared to daily liquidity bank debt funds.
• Apollo (Rowan) states that 95% of the time, they cannot negotiate terms in public markets, forcing a strategic shift toward private origination and structured products to avoid competing with non-credit-sensitive buyers.

Strategic Shifts in Origination & Capital Formation:

• Brevin Howard (Warren) and Apollo (Rowan) predict the next decade will be a "golden era" for credit investors as regulatory changes (Dodd-Frank, Basel) shrink bank balance sheets, opening space for private capital in direct origination.
• Golden Tree (Tannenbaum) notes a massive shift in demand for capital, citing a recent $21 billion deal that was five times oversubscribed by 700 institutions, indicating strong appetite for high-yield even in a disciplined market.
• Canyon (Friedman) emphasizes that while the "beta trade" in RMBS has ended, specific niches like monoline insurer bonds (NBIA, AMBAC) and non-performing loans (NPLs) still offer significant yield compression opportunities and value.
• Apollo (Rowan) is aggressively expanding into direct origination in oil, gas, shipping, and mining to create returns that do not rely on market pricing or competition from ETFs.

Geographic Opportunities: Europe & Emerging Markets:

• Europe is identified as a primary area for distressed debt investment, specifically in Non-Performing Loans (NPLs) held by banks in France, Italy, and Greece, where banks are forced to sell assets to right-size balance sheets.
• The European NPL market is described as less competitive than the U.S. market due to limited distribution and a focus on process over price, though successful execution requires significant infrastructure for asset collection.
• Apollo (Rowan) identifies China as an emerging opportunity, noting that while small and medium enterprises (SMEs) drive employment, they lack access to a deep high-yield debt market currently dominated by large state-owned banks.
• Richard Kanner (Moody's) warns that while Europe's sovereign risk is stabilizing, the region lacks the harmonized data reporting infrastructure required to scale a securitization market comparable to the U.S.

Regulatory & Systemic Perspectives:

• Panelists argue that the regulatory shift away from "Too Big to Fail" banks has been necessary to disperse risk, creating a long-term role for alternative capital providers in infrastructure, housing, and corporate lending.
• Mark Rowan (Apollo) suggests that while alternative credit firms may eventually face regulatory scrutiny, they currently operate with a liberal mandate that allows for cooperative relationships with banks rather than direct competition.
• Steve Tannenbaum notes the ECB's recent push to encourage securitization as a potential catalyst for shrinking bank balance sheets and transferring assets to the investment-grade market.
• Richard Kanner (Moody's) predicts Moody's expansion will focus heavily on Asia, the Middle East, and Sub-Saharan Africa, though questions remain regarding the openness of these markets to external credit opinions.

Firm Evolution & Future Strategy:

• Brevin Howard (Warren) plans to increase focus on illiquid, co-investment opportunities and direct credit creation to achieve higher returns and avoid liquidity mismatches.
• Apollo (Rowan) expects credit assets to grow to multiples of current levels via permanent capital vehicles that stand alongside banking systems, targeting sectors where public markets have failed to provide capital.
• Canyon (Friedman) anticipates a resurgence in the U.S. distressed market in the back half of the next five years, driven by the eventual correction of current leverage multiples.
• Golden Tree (Tannenbaum) will continue to favor asset-backed securities (student loans, CLOs) and structured products over standard high-yield bonds due to better risk-adjusted returns.
• Moody's (Kanner) foresees its business following capital flows into high-growth regions, navigating policy decisions in Asia and the Middle East to determine the scope of rating services.