Bigger businesses and better structure provide strong opportunities in this asset class

And so I think from processing the acute pain of a very short-term rise in rates on the short end of the curve, we're nearing the end of that. 

I think the growth that we're seeing in the economy continues to be very strong and we have not yet seen the labour market really weaken, which I think is going to be an important factor in terms of when you start to see potential Fed loosening. But as of today, it feels like there needs to be more weakness in the economy before the Fed is going to pivot. 

LW: Where are you seeing opportunity with that in mind? 

Richard Schoenfeld: We, as a firm, are seeing opportunity generally. Credit is a really attractive asset class to be in right now. 

Not only have we seen more spread on the private credit side than historically has been on offer, but we're also seeing better structure and bigger businesses coming to the market.

One thing that I think is really important is, in private credit, bigger businesses with lower loan-to-value are paying you more to access that market with higher base rates since you're getting really solid return expectations on lower risk. I think the big question in private credit ultimately is whether the syndicated markets reopen. How long are those returns sustainable in the market will be a question of the duration of the good vintage that we're feeling today. 

LW: How long are they sustainable? 

It is really a question of the health of the private credit market, the syndicated markets, just capital markets in general. It does feel like we're going to be in a choppy environment for a sustainable period of time. So I think I'm optimistic that there'll be an out-sized opportunity for the foreseeable future in both of our markets.

Whereas if the syndicated market really recovers quickly and the cost of capital becomes lower, their issuers are going to be incentivised to refinance expensive debt that they may have placed in the private markets. 

LW: What subject are you spending the most time debating internally right now? 

The biggest thing from a macro perspective that we're debating as a team is, when is the right time to start to add duration in the portfolio. Clearly, there's been a lot of disruption, in particular, in the fixed bond market, from the changes in the cost of capital. 

I mentioned earlier that we had the view coming into the year that the market was probably expecting cuts too soon, and so we favoured floating rate loan exposure over bond exposure, all else equal, because you were getting compensated for rates continuing to stay high and rising through this Fed hiking cycle.

With the market now more in line with our perspective of higher for longer, we're starting to see more opportunities to add bond exposure. I wouldn't say we're at the moment where we're outright wanting to take duration risk, but I think our view of the asset class has come more into balance.

Really, what our KKR macro team has guided us to and we support from the credit investing perspective has been the real leading indicator of when to start to take duration, which is when you start to see the labour market weaken in the US. 

LW: We are seeing a lot of volatility in bonds today. Is the 60:40 portfolio model dead? 

Well, I think what we're seeing in the market today is we're just in a step change difference in terms of the return on offer in credit. I think one of the really important things to understand about the credit market is that, in particular in the bond market, the quality of issuers taking advantage of the bond market has gotten a lot higher over the past decade than where we had been.

The average percentage of the market that is BB-rated, the highest-rated portion of our high yield market, is 50%. In the European market, that's 60% and more. And more and more of the issuance in our market this year has been secured. It's about 60% year to date versus a historical norm might be closer to 15%.

And so we're seeing a market that's becoming much more high quality, and as a result, we're not only seeing return, but we're also seeing higher quality businesses access that. And so I think, from a market opportunity perspective, we really like that dynamic. Clearly, there's risk in the macro economy, geopolitically, etc, but we are seeing opportunity really doing the simple things right now.

Richard Schoenfeld