S3: Conversation with Ruth Yang, Managing Director, Global Head of Private Market Analytics, S&P Global Ratings

Summary

Educational Alpha Podcast - Episode S3: Conversation with Ruth Yang

Host: Bill Kelly
Guest: Ruth Yang, Managing Director, Global Head of Private Market Analytics, S&P Global Ratings
Release Date: April 23, 2025

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1. Introduction and Welcome

Bill Kelly opens the episode by introducing Ruth Yang, highlighting her extensive experience in credit and leveraged finance. He emphasizes the relevance of Ruth's insights on private credit markets and their growing significance in the financial landscape.

Ruth Yang [01:00]: "I share my extensive background in credit and leveraged finance, highlighting my unique perspective on the expansion of private credit markets."

2. Ruth Yang's Background and Career at S&P

Ruth Yang delves into her two-decade-long journey with S&P Global Ratings, detailing her roles and the evolution of her career within the organization. She underscores the stability and supportive environment at S&P, which has allowed her to balance a demanding career with personal responsibilities.

Ruth Yang [02:01]: "I've been with S&P in different roles for over 20 years. My background is entirely credit and credit research, primarily in leveraged finance and broadly syndicated bond markets."

Ruth also shares personal anecdotes about being a working mother and the flexibility S&P offers, enabling her to actively participate in her son's life while pursuing a challenging career.

Ruth Yang [04:38]: "I really do appreciate that S&P has allowed me to have a very challenging, ambitious, engaging career. But I can also have the work-life balance that I really aspire to because I love my son."

3. Overview of the Private Credit Market

a. Market Size and Growth

Ruth provides an in-depth analysis of the private credit market, estimating it to be around $1.7 trillion and projecting its growth to potentially double within three years. She clarifies that private credit primarily involves non-banking funding for corporate borrowers, excluding CLOs, securitizations, and project finance.

Ruth Yang [06:49]: "We estimate based upon Preqin's numbers that there's about $1.7 trillion of private credit outstanding. Private credit refers to the private non-banking funding of corporate borrowers."

b. Rating Coverage in Private Credit

S&P Global Ratings currently covers approximately $800 billion in transactions through credit estimates, out of the total private credit market. Ruth explains that private credit doesn't inherently require ratings, unlike the bond market, but S&P provides valuable insights through its credit estimates.

Ruth Yang [09:17]: "Private credit does not require a rating like the bond market requires a rating. Of the $1.7 trillion, S&P Global Ratings covers about $800 billion through our credit estimates."

4. Documentation and Covenants in Private Credit

A significant portion of the discussion revolves around the quality of documentation and the prevalence of covenant-light agreements in private credit transactions. Ruth contrasts traditional private credit agreements, which maintain robust covenants, with newer, larger transactions that are more likely to feature looser documentation.

Ruth Yang [16:44]: "Covenant light and the looseness of documents are really a problem with the broadly syndicated market. In private credit, especially in direct lending and SME lending, the quality of documentation remains far stronger."

5. Lender-on-Lender Conflicts and Club Deals

Ruth addresses the emerging issue of lender-on-lender conflicts within club deals—where a group of lenders may prioritize their interests over others. She discusses the potential risks associated with such dynamics, especially in the context of increasing default rates and economic downturns.

Ruth Yang [19:26]: "Lender-on-lender violence within a syndicate, where some lenders prime themselves over others, is a growing concern, though currently not widespread."

6. Opacity and Indicators of Market Stress

The conversation shifts to the inherent opacity of private markets and how certain indicators, such as the performance of Business Development Companies (BDCs), can signal underlying stress. Ruth highlights the importance of rating structures to provide clarity and assess the risk within these opaque environments.

Ruth Yang [22:50]: "Rating BDCs involves assessing the structure rather than individual assets, providing a clear line of sight into the risk for investors."

7. The Role of Rating Agencies

Ruth emphasizes the critical role rating agencies like S&P play in both private and public markets. She asserts that ratings provide a consistent benchmark for assessing risk, irrespective of the market's transparency or complexity.

Ruth Yang [31:03]: "Our role remains the same—we provide a clear line of sight into the risk of investment, whether it's public or private. A double B is a double B to us, consistently across all markets."

8. Thought Leadership and Current Focus Areas

Ruth outlines S&P's current thought leadership initiatives, focusing on macroeconomic headwinds affecting credit markets, such as tariff policies and the transition to higher funding costs. She underscores the increasing risk of defaults as the market navigates these challenges.

Ruth Yang [36:26]: "We are very focused on the macro headwinds facing credit markets, including tariff policies and the transition to a structurally higher cost of funding."

9. Impact of Generative AI on Rating Processes

The integration of generative AI into S&P's workflows is explored, with Ruth discussing how AI aids in data processing, visualization, and document handling. She balances the technological advancements with the indispensable role of human expertise in maintaining rating accuracy and integrity.

Ruth Yang [38:53]: "We are actively integrating generative AI into our workflows to enhance efficiency and scalability while ensuring that our subject matter experts maintain the unique insights essential to our ratings."

10. Future of Private Credit and Democratization

Bill and Ruth discuss the potential democratization of private credit markets, making them more accessible to retail investors. They debate the challenges and necessary infrastructure required to ensure transparency and reliability as the market expands.

Ruth Yang [42:40]: "As the private credit market grows and becomes more accessible to retail investors, there's a significant need to connect and standardize data to enhance systemic transparency."

11. Conclusion

Bill wraps up the conversation by reflecting on the transformative changes in the financial services industry and the importance of informed education in navigating these shifts. Ruth expresses optimism about the future, highlighting the role of young professionals in driving innovation and solving existing challenges.

Ruth Yang [43:10]: "Young people with an understanding of data sets and generative AI can significantly contribute to connecting and solving data-related challenges in private credit markets."

Bill Kelly [43:45]: "It's remarkable. I learned a lot."

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Key Takeaways

• Market Growth: Private credit is rapidly expanding, projected to double within three years, emphasizing its increasing role in corporate financing.

• Rating Importance: Despite not being inherently required, ratings provide crucial risk assessments in an opaque and complex market.

• Documentation Quality: High-quality documentation and robust covenants are vital in maintaining the integrity and stability of private credit agreements.

• Technological Integration: Generative AI is being leveraged to enhance data processing and analytical capabilities, complementing human expertise.

• Future Accessibility: Democratizing private credit presents opportunities and challenges, necessitating improved data connectivity and transparency for broader investor participation.

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Notable Quotes with Timestamps

• Ruth Yang [02:01]: "The majority of my time I've been in leveraged finance, broadly syndicated bond markets, indices, calculations, benchmarks."

• Ruth Yang [06:49]: "Private credit stretches from funding SMEs to large transactions, and it's expected to double in size in three years."

• Ruth Yang [16:44]: "Covenant light agreements are a concern in broader syndicated markets, but private credit maintains stronger documentation standards."

• Ruth Yang [31:03]: "A double B is a double B to us, whether it's public or private. Consistency in ratings is key."

• Ruth Yang [38:53]: "Generative AI helps us process data and generate visualizations, but our subject matter experts are essential to our rating process."

• Ruth Yang [42:40]: "Connecting and standardizing data in private credit is crucial as the market becomes more accessible to retail investors."

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This episode of Educational Alpha offers a comprehensive exploration of the evolving private credit landscape, the pivotal role of rating agencies, and the intersection of technology and finance. Ruth Yang's insights provide valuable perspectives for professionals and enthusiasts aiming to navigate and understand the complexities of private markets.

Transcript

[Bill Kelly]

Welcome to Educational Alpha. I'm Bill Kelly, your host, bringing you on the ground conversations with business leaders, educators and industry colleagues from around the globe. Educational Alpha is sponsored by iCapital, the financial technology company with a mission to power the world's alternative investment marketplace. Part innovator, part educator, and part navigator of the alternatives industry, iCapital offers intuitive, scalable digital solutions that have transformed how private market and hedge fund investments are bought and sold. With iCapital, financial advisors, wealth managers and asset managers around the world now have access to everything they need to deliver the return and diversification potential of alternatives to high net worth investors. To learn more, visit icapital.com in this.

[Ruth Yang]

Episode, Bill welcomes Ruth Yang, global head of private market Analytics. At S and P Global Ratings. Ruth shares her extensive background in credit and leveraged finance, highlighting her unique perspective on the expansion of private credit markets. They explore how private credit has evolved, the role of club deals, rating methodologies and the growing involvement of high net worth investors. Ruth also discusses the impact of documentation quality, the rise of lender on lender conflicts, and the critical role of thought leadership and generative AI in shaping the future of private market analytics. Ruth?

[Bill Kelly]

Yes, Yang. Welcome to Educational Alpha.

[Ruth Yang]

Thank you, Bill. I'm very happy to be here.

[Bill Kelly]

I've been looking forward to this and as we think about the growing access to risk premia in the private markets, the role of not only thought leadership, which you oversee, but ratings as well, is something that's so germane. But before we get to that and we have a lot to cover, there maybe a bit of your background. You've had a couple different stations in your career and I think that would help the listeners orient themselves to your point of view.

[Ruth Yang]

I am at S and P Global Ratings, the global head of private market analytics. I've been within ratings for about three and a half years now and I've been with S and P in different roles for about over 20 years. My background is entirely credit and credit research. The majority of my time I've been in leveraged finance, broadly syndicated bond markets, indices, calculations, benchmarks. And I think what's interesting with a rise of private credit, you will find a lot of us who have been around for a long time, but we've been as part of the credit markets, as part of the evolution towards this behemoth that is now private credit. So there's a continuity. It didn't come out of nowhere. It's like they talk in Nashville, like there's no overnight successes. Everybody built from something. And I think that's true of Private Credit as well.

[Bill Kelly]

And I did take a quick look at your background, and I'm a fan of the Godfather movies. And Michael Corleone, I think, in one of the later editions, said, every time I try to leave, they pull me back in. And it reminded me of that line when I looked at your cv. And if I read it right, you've had three separate stations at S and P, including your current one. So maybe it is the best gig in town. And every time you try to leave, they maybe do pull you back in.

[Ruth Yang]

I have come back every time. I mean, I think there's two parts about it, one of which is I have left and I've come back. And I think part of that is I appreciate the company has always been very supportive of the idea that maybe even though we're a huge company today, you can't always find that skill set that you're looking for in house. You kind of come into roles, and sometimes when you're looking to do something different, you have to go somewhere else and learn that. I think, to be honest, though, coming back has been always very interesting because I am a working mother. I have a wonderful husband who pulls more than half of his load here at home. But I really do appreciate that S and P has allowed me to have a very challenging, ambitious, engaging career. I've gone from building product to strategy and big picture strategy, but I've also had the privilege of coming home. My son can pick me out from a crowd. I've been able to cook dinner for him on the majority of his life. The first couple of years after he was born, I just stayed home. I didn't travel at all. So I appreciate that. S and P has really given me a place where I can flourish as a professional. But I can also have the work life balance that I really aspire to because I love my son, and he's the best thing that I've ever done, best product I've ever built, everywhere. And I'm really proud to be a really active part of his life.

[Bill Kelly]

And you have a rating on your son?

[Ruth Yang]

Well, he's a freshman in high school. I have a rating on my parenting skills, and I may not grade myself very high, but. But he is a lovely, lovely young man.

[Bill Kelly]

Well, I think given what you just said about your experience with S and P, that approach deserves a AAA rating. And it's great to hear that. And S and P should get due credit for it. Not every employer is as enlightened. And I look at what happened during COVID I think it allowed a lot more flexibility and there's two sides to this coin and I kind of understand both sides, but I think we have thrown some of that away which allowed the two spouse family to raise children and deal with it. I've got five of my own, my wife's a physician, so I do understand those challenges. So great that you were able to make it work and great that S and P was supportive of it.

[Ruth Yang]

I'm very grateful to them. I've always told them that. As my boss once said to me in private credit, such a hot topic do people approach. It was like people will call me and ask me, but I am incredibly appreciative of the work life balance that S and P affords me. I work really, really, really hard. There's no doubt that I'm, I hope, a big contributor to the company. But at the same time I appreciate that the hybrid approach to work really enables me to be home for dinner and to do a lot of things that if I had to commute every day would be difficult to achieve.

[Bill Kelly]

Glad you brought that up. I've been a supporter spouse as well, but a lot of credit to my wife Liz, and she ended up giving up her career thinking she'd go back, but never did. But she has no regrets. And that's the important part of life to never regret.

[Ruth Yang]

Absolutely.

[Bill Kelly]

So on to the more, maybe more mundane world, the private markets. But it's $2 trillion worth of mundane ness and big part of your life as well. And there's a lot to cover there. But maybe we could start with some common vocabulary and sizing the market and every time I look at some credible source, and maybe it's because part of this market is opaque, it's hard to put a number on how big private credit is in total. And I see a number mostly around 2 ish on its way to 3 and a half. But what is the current state of play from your vantage point, Ruth, in terms of the size of the market?

[Ruth Yang]

Some of it is maybe a little reductive in approach, but we do try to anchor against numbers that make sense to people. So we estimate based upon Prequen's numbers that there's about $1.7 trillion of private credit outstanding. And when we say private credit, what we're really referring to is the private non banking funding of corporate borrowers. It's not clos per se, it's not securitizations, it's not project finance infrastructure, it's not data centers, it's not Any of that. It is more of a traditional corporate borrower borrowing money for M and a capex, whatever it might be to fund any corporate needs. And it stretches from where private credit has really scaled up in the last five years. In particular where it funds a billion dollars or more on a consistent basis that could normally go to the broadly syndicated market or the bond market. This is where private credit, the sponsors and privately funded and funding raised through alternative investment funds can fund these larger transactions. And then there is this abundance of direct lending SME, small to middle sized enterprises that are, we ear tag them as $50 million or less in EBITDA, but smaller than that, the mom and pop companies, the roll ups of health care that we see, pet cemeteries, pet products, all of these different things, all of the AI startups that we see today, these young companies are out there and they are funding their growth through debt capital markets and not just waiting for equity or private equity infusions. And that has been going on since the 1980s when BDCs were created in order to support funding to small to medium sized enterprises. But it is a very interesting market because it isn't just the structure of funding private credit. It is also there is a growing size component. So when you look at the rate at which that 1.7 or $2 trillion depending on which source you use it from, I think the most important part is the projection that it will double in size in three years. That's really the most important number that we can look at because it's the expectation that it will grow so rapidly.

[Bill Kelly]

And in terms of percent of that market that you or your peers in the rating agency cover. What's the coverage ratio in terms of if it's 1.7 or 2 trillion to round it up, what percent is rated?

[Ruth Yang]

Private credit does not require a rating like a bond market requires a rating. Broadly syndicated has a market need for a rating because it supports market efficiency. Private credit as it stands does not need to have a rating for lenders to lend or borrowers to borrow. Of the $1.7 trillion S&P Global Ratings has about 3,000 transactions and about $800 billion of transaction size that is covered by our credit estimates. Our credit estimates are a point in time rating that is part of the middle market clo rating process. But the middle market clos have been a large important part of the growth of the investor funding to this market. And it allows us to have really good insight into what is going on in that not rated but now privately rated part of the market.

[Bill Kelly]

So if I think about then guard variety direct lending transactions. So you've got a fund of XYZ gps, gathered assets raised, the fund is now going out. And lending is that typically not rated or rated or. It depends.

[Ruth Yang]

When we think about the direct lending market as it exists, there has been a growth of private credit funds, but really where the majority of the debt has come from over the decades of it existing is whenever a private equity fund raises a fund and the GP goes out and buys a company, we talk a lot about the equity side and how the LP has this massive roi. More than half of the funding of that acquisition though comes to the debt capital markets. And that's really the origins of private credit. So throughout the decades, whenever a private equity sponsor said I've spent $700 million to buy this company, their equity contribution is 30, 40, 50%. It's a growing share now in a tight financial market. But the other half is borrowed and it's mostly borrowed in this market through a bilateral transaction because it's small enough, they'll go find one institutional investor insurance company and say, hey, this is an amazing pet product company. If you fund the loan, you'll get Libor 350 so for 400, whatever it might be today, and they will fund that deal. And now as you go up in size, private credit is originating now larger and larger transactions. 1 billion up to 3, $5 billion and higher. Now those will mostly be club deals. You won't find one lender to them, but you'll find a club. Club is very different than a syndicate. It's a much tighter organization. There isn't secondary market activity. There is a growing number of larger transactions that are being funded through club.

[Bill Kelly]

Transactions for either the club transaction or as an adjunct to the private equity raising where there is leverage. Any of that paper rated, that's kind.

[Ruth Yang]

Of where, I mean, if it is a B minus or better credit, a piece of it will go into middle market clo and that's where the, the asset manager will place it and they'll get the funding through that structure. All of that rolls up into the $1.7 trillion estimate that we're talking about, of which about half falls into our coverage through credit estimates of that market.

[Bill Kelly]

Who's the primary user of the rating that S and P puts on a particular deal or company.

[Ruth Yang]

If we're talking about credit estimates, those exist only in a middle market clo for the purposes of the asset manager. So if we have one loan that's sitting in a middle market clo and asset manager A is the asset manager. As part of the rating of the middle market closure, we will require a credit estimate. We have a small bucket for unrated assets, but in general for middle market clo, we need a credit estimate to have a clear line of sight to the risk and performance of the underlying asset. As a result of that, though, we have the 3,000 loans transactions that we rate, we do publish publicly and we can make it available information on the performance of those assets. So we look at default rates, we look at transition rates. We look at through the same lens that we look at what we call our public ratings. Public ratings are the rating that obviously everybody sees and knows. American Airlines, Chrysler, whatever it might be. Those are large public ratings where we engage with the issuer. So American Airlines, Chrysler, United Airlines, they engage with us for the purposes of their ratings, which allows them to raise debt in the debt capital markets, whether it be a bond investment grade. It gives them that optionality.

[Bill Kelly]

We talked about this before we hit the record button and the surveillance process and how important that is. And these ratings are not just a one and done and talk about maybe what it means in the public markets versus the private markets. And there's some commonalities, but some differences too, I assume.

[Ruth Yang]

So just to be clear, whether it's public or a credit estimate or anything in between, the surveillance is actually the ongoing relationship. When we publicly rate a borrower, any of the public companies that we can think of who has a public rating so that they can raise debt, we rate at issuance, the asset or the issuer, and then we surveil, we have an ongoing relationship with there, where they update us with their financials, they disclose to us anything that might be happening if they're going to raise more debt, if they're going to ipo, whatever it might be, we have an ongoing relationship with them so that we can maintain surveillance. If at any point we do not get the information from an issuer that we need in order to maintain the rating, we withdraw the rating. And that is a publicly disclosed moment. So if you see us rating something, it is not just that we have initially rated it, it's that we have the ongoing relationship in order to maintain that rating. It never ages. As long as we are currently active with them, we are constantly assessing the ratings so that we can maintain it. Credit estimates are a little bit different because they exist within the framework of the middle market clo. In that case, we are not engaging with the issuer, but we are engaging with the asset manager. So the Asset manager says, I have these hundred loans, I want to put them into the middle market. CLO here are audited financial statements, the credit agreements. I mean there's a lot of documentation we receive. We do not engage with the borrower, the company behind each of those loans. But the asset manager is our relationship. They are required to disclose if they learn something is going on with the company. Right. Anything they learn, they're required to disclose to us. They also have to refresh their information every year. Those credit estimates do require an update every year from the asset manager. It is a point in time assessment of the credit. It is not the same as a public rating, but it is a part also of the whole middle market rating process.

[Bill Kelly]

Before we leave this, just a couple of follow ups. One Covelight is in and out of the news cycle. It was very, very topical. I don't hear so much of it anymore. Maybe more systemic risk, which we can talk about too. But you mentioned before, Ruth, that the asset manager has a responsibility to tell you what they know. But is it possible they don't know enough and that if it's cov light there might not even be an interest coverage ratio that's required, which is a pretty simple calculation. Maybe they don't have a visibility. How important are these covenants and how do you view that when you may be faced with an asset manager that is not seeing everything you'd like them to see in terms of early bleed in terms of the underlying company?

[Ruth Yang]

So I think what's really important when we talk about private credit, there's two pieces. Covenant light is really endemic in the broadly syndicated market. The quality of docs, the looseness of the covenants, not just having financial covenants and maintenance covenants. There is a whole thing like we've talked about, the market is always talks about. J Cruise, Certa, Sealy, all of these issues with assets being able to disappear from the package over time. Covenant light and the looseness of documents is really a problem with a broadly syndicated market. And again, it's not just about financial covenant maintenance. It's about the entire quality of documentation when we look into private credit. First of all, the asset manager, they are basically the lender to the transactions. They do not lightly enter into those agreements to lend. The private credit really prides itself and I think they've really adhered to this to the closeness of a relationship between borrower and lender or actually it's private equity sponsor and the borrower and the lender. So I think that all of the asset managers really Adhere to having a close relationship before entering into those agreements. The other thing we've seen in private credit over the years is the traditional part of private markets, which is direct lending, SME lending, the quality of documentation and the presence of financial and maintenance covenants is much, much, much higher than when you cross over into $1 or $2 billion privately funded transactions and higher. Where private credit is competing with BSL market for the same paper, we have seen more covenant light and looser document terms. We know that there is a weakening of credit at the upper end of private credit, but this is really where private credit and public are competing for space. And in times of high liquidity, we've seen that those documents do weaken. From our analysis and we have a lot of reports on this. We've basically seen that doc quality in private credit remains far stronger and more robust, including financial covenants, than in the BSL markets.

[Bill Kelly]

Slightly changing gears. I want to come back to these club deals you mentioned before, which I totally understand and see and I think our listeners would be familiar or can intuitively understand what that is. But sometimes when you have these club deals, it evolves into lender violence, which we've seen in the news too, where it does matter where you are on the capital stack and maybe it does matter how much ownership you have inside of those club deals. We're starting to see some of that. I don't expect it to be an epidemic, but is this just episodic or could this potentially be an issue and.

[Ruth Yang]

A challenge where we are today just to disclose versus where we go if interest rates do not continue to taper as was forecasted for 2025 and 2026 and the economy, if we go into a recession, we will see defaults tick up. How any of the credit markets perform in a real default cycle is really uncharted territory at this point. What we see mostly in the BSL markets is really where the lender on lender violence is, I think the biggest risk. For me there's two types of lender on lender violence. There's the part of me that has been in this market forever. Lender and lender and violence in my world used to be loan and bond stakeholders competing against each other in a restructuring where bond guys would start buying up loan shares so that they could screw over the loan people or vice versa. That used to be about your position in the capital structure. Now when we talk about lender on lender violence, it's within one lending syndicate where some parts of the lenders will get together and they will prime the rest of the lenders. They'll get together, they'll make an agreement with the company or the sponsor and they'll say, okay, we have enough people to say we're going to take the lion's share and prime ourselves over another. That's the direction we've really gone on in lender and lenders in clubs. I don't actually think we see it that often. What we do see in private credit, which is if defaults tick up, we're going to be very thoughtful about, is private credits tends to not go through a bankruptcy court and a traditional, very transparent restructuring or a normal default. What we see are a lot of selective defaults, which is a restructuring that is basically going to impair part of the capital structure, not give a lender what their expected outcome is. There's a lot of ways we define it within ratings. When we calculate default rates or when we look at default rates in general, we look at a normal default, which is the bankruptcy and a restructuring. And then we actually factor in the rate of selective defaults. And with our credit estimates analysis like we saw this big spike in selective defaults over the last couple of years during the transactions. It's not a huge spike. I think we ended up in the 6% range in total, which is far lower than we saw during the great financial crisis. But you definitely see that the behavior, I think it's tied to the different types of doc quality that we have changes. And yes, parts of the lending group can get together and not be aligned with the rest of the lending group in an uptick in defaults, you will probably see more of that behavior.

[Bill Kelly]

And these private markets, and you alluded to it a couple of times here today, Ruth, they are opaque full stop and there's nothing we don't know about that. That's part of playing in this playground. But if I think about where we have less opacity, it might be in the BDC space as an example. And I don't know if that's the first canary in the coal mine we look at, but we are seeing BDC NAVs that are maybe trading 20% down and greater percentage of pick in the interest component. So I don't know if you rate that space, but should we view that as an early indication of at least a flashing yellow light and ultimately, as you say, the economy is going to drive it if we go into recession? All bets are off.

[Ruth Yang]

A friend of mine who is a mentor on research says it's directionally correct. He's absolutely Right. So we do rate BDCs. As a word of disclaimer, when we rate a BDC, we rate the structure. We are not rating all of the underlying assets. We do stress them. Based upon our research and our analysis, we look at the structure. To be fair, a lot of ratings in the private market sit at the structure level. The way we rate middle market clos, we have a clear, clear line of sight into the behavior of the underlying assets. But for a bdc, for a NAV facility, for a sub line, right, we are rating a structure. We are not always rating the underlying assets because the idea there is the investor is sitting at the structure level. Even for high net worth individuals, they are not lending to a borrower, they are investing in a structure. And we as a rating agency want to assure that. What my friends and criteria always remind me, we are matching the asset to the liability. Can the structure repay the investor on the terms the investor is expecting to have back? And that's what we look at. I do think that when we look at BDCs overall, we do see that the rise of non performing assets, the rise of picks, that is indicative of the stress that private credit direct lending has been under and the transition to hire for longer. We also, through the lens of the credit estimates, do stress tests because we have a lot more granular information there. We look at their capacity to take a lot more pressure and I think that it is problematic. It would be problematic if we do not see rate cuts. But I think when we pressure test our credit estimates, what we also realize is that these credits and direct lending also need an economy to stabilize and start to grow. I think a recession is really going to be difficult for these companies which have made it through the transition to a structurally higher cost of funding to flourish and to grow and kind of regain their footing. I would also ask people to bear in mind when they think about private credit. One of the cautionary things about is when we look at default rates. So when we rate in credit estimates, what goes into a middle market close is a B minus or better credit. That's to support the structure of middle market clo a lot of private credit, the traditional direct lending side of it, SME side of it. A lot of these companies are very young companies. They're venture capital, early stage growth equity. They're not meant to be a B minus risk of default or better because they are startups, they're at an earlier phase and to be fair, their ability over the last decade since the BDC was formed in order to Encourage SME lending. The ability in the American economy for a young company to borrow money to fuel its growth, I think is really important to how innovative this economy is to these young companies. You look at the speed with which AI has come into their business models or all of the things that it's difficult for a bank to fund, whether it's cannabis or some of these more peripheral business structures, but they are a part of the vibrancy of the American economy. They have a higher risk of default. It's the nature of the beast. I think anybody who lends directly to them, sponsors for sure recognize this, but they take that risk because overall, whether it's the ROI or whatever, it works out for them financially, we have to recognize they're a slightly different animal than when we think about American Airlines or a speculative great company that's rated B minus or better. There is going to be a higher rate of default under pressure. But they are meant to be that way because more than half of venture capital fails. Those are the odds. But if these companies could not access the debt capital markets over the years, I think that we would maybe not have the same diversity and vibrancy in our economy that we have today. I look at these companies and my 15 year old son may hate this joke, but I expect some of these company models to be the kind of company that employs him in 10 years. Because it's a very different world than what kind of business models were being brought when I was in college.

[Bill Kelly]

100% on the same page with you. And it used to be in the course of my career the small and micro cap public equity markets were that home of innovation. And now there's more and more capital in the private markets. They're funding these startup ecosystems and in health care as an example. And I do think about that a lot as I get older and older. But you think about just tech and artificial intelligence and they may not go public ever. And they can have a pretty sizable market cap because once they establish themselves, but it is a lot of risk attached to it. But that's a vibrant part of our economy. We must get that, we must fund it. And also we must find ways for you and I as 401k investors for own retirement to get sensible access to that. How and we accomplish that, we would need five years to talk about that. And we still might not figure it out. But it is an important point to make.

[Ruth Yang]

It is. And that's obviously one of the things that private equity sponsors aspire to. I think the other thing that we need to be thoughtful about as we figure out how to bring business models and investment opportunities to 401ks and individuals. Is the difference between the micro cap market that existed 20 years ago and the private equity and I'm not advocating for one or the other though is that with private equity funding through ownership and debt capital markets, these young companies, they also are more adept I think at executing on platforms and rollups which is starting to combine things together. When it was just an equity funded world, it was hard to find a peer and a partner to merge. That's much more complicated. There is an opportunity for us to make sensible decisions especially with so much technology opportunities and scaling in the market for people who have some experience to sit and say well let's piece things together and roll them up and scale them up. But I think you do need a certain level of transparency, clarity, third party assessments on these invisibility into market dynamics where the opportunities for one company or a roll up or the performance of sponsors, you need some ability to assess them before there is an opening of the connection between individuals and their retirement assets and private credit.

[Bill Kelly]

I agree. And a bit of a shout out to the sponsor of this platform iCapital. I think there's a lot of technology solutions like that that are going to be very important in solving for this. Maybe in our remaining 10 minutes or so together I'm going to try to cram in three things. I want to talk about rating agencies. As private credit goes from 2 to 4 trillion and gets more retail or high net worth and more democratized, what's leading the charge on thought leadership because I know you oversee that as well. And then maybe finish if we have time on how Gen AI might be impacting your business model. Maybe not so much today, but as you look in so a lot to pack into a few minutes. But starting with this roadway from two and a half or two and I think it's even frequent that says we're going to get to three and a half to four and most reputable people say that and I can very much see that. I think the banks are not going away but the private credit side of the street is getting into the broadly syndicated market themselves too. I think regulation is going to have to go up on that side of the street. But as you get a buyer being now a 40 act mutual fund as an example or a day traded ETF and we've seen something like that approved at the SEC just a few weeks ago, I would have to imagine the role and importance of a rating agency is going to change and evolve. And I know a lot of this is speculation, but I'm sure you folks do think about it. What is your view, either the future in general or more specifically the role of rating agencies in this next turn?

[Ruth Yang]

I think that our role remains the same. We provide a clear line of sight into the risk of investment, the risk of default. How likely are if you lend money or you invest in this asset, will you get back what you are contracted to receive back within the timeframe that you are contracting for? When we rate a company as a AAA or a double B, it's a very different rating, but it is part of the same scale. Public or private, we rate both. And our criteria and our subject matter experts are the same. In a market that becomes very opaque in illiquid those things, having a rating is really, really helpful. Because if we give you a double B rating or a double A rating, what we are really focused on is ensuring that our criteria and our experts have assessed this and that if you get a double B, that all double Bs, whether they are sovereigns, corporates, public, private, they all behave within a margin of error in a consistent way. A double B is a double B to us. A double A is a double A to us. We look at all of these very complex transactions. We look at NAV facilities, we look at alternative investment funds. And when we look at these, we look at the complexity of the transaction, we look at illiquidity of assets versus highly liquid assets. We look at all of those and we stress them and we say, will you get out of this what you're contracted to get out of this? Matching asset to liability. So I think the role of a rating agency is very important in an opaque and complex market to provide insight for large investors who need a rating. And I think having the perspective of S and P, which has a million transactions under surveillance at any moment, is very, very impactful. And then of course, we take our role in the market also very seriously, that we use those ratings to inform our research and our thought leadership and our commentary. So as the market evolves, what are we seeing and then how do we share those insights and information with the market in a very measured and thoughtful way. We try very hard to be always data driven and to be aligned with each other and to understand what the others are seeing and to give kind of a well rounded perspective. Private markets don't have to have a rating generally. There has to be a reason insurance is putting capital in, whatever it may be. There's certain places when we talk to the market about the role of ratings, it actually is the same whether you have to have us because you're regulated or you are looking at us as an option to have a rating. I think that either way we want to do the same job.

[Bill Kelly]

One, follow up before we get on to thought leadership. Then Ruth, second. So you said a moment ago that double A is, the AA is double B, full stop. And I absolutely understand and appreciate that approach. And maybe the answer is education. But how do you think about the user and the sophistication of that user changing and they may be less sophisticated and maybe they see AA as that's great and we move on. Do you think about it? Maybe it's not even S&P's role. Perhaps that might be the answer too with education. But as you get a more democratized world where there are buyers in a 40 act fund and they're putting maybe too much weight on a public accountant's opinion letter on a rating agency's rating, is there a thought on that?

[Ruth Yang]

I mean, I think our job is always to educate and make sure that our information is accessible, digestible to the audience that we are in front of. There are a lot of places I think it's fair to say that a rating is just a rating to them. I don't know that my mom is going to go buy a share of an American Airlines bond or a spec grade bond that's not within their mandate. But I think the performance of the downgrade ratio, the default ratio, whatever is going on between the ratings category, that's really important because it tells you how much pressure there is in the system and how things are going. And then through our credit conditions committees which we just ran update based upon the tariffs, we talk more about the macro headwinds that credit markets are facing. There is the individual rating, which I think is for probably the more institutional, more sophisticated rated because they're again not going to blend money to an individual company. But as you aggregate up and you talk about the dynamics and credit conditions and credit headwinds, that is really geared for ensuring that we can talk to anybody in the markets about what is going on and how credit market pressure is waxing or waning. So it is always our job to talk about the rating. And anybody who wants to know about a AAA or a AA versus a double B, we're happy to talk about that. But then we also want to talk about what is the part of the rating or the research that is applicable to the person who is curious or interested in it, there's always something about ratings that matter. Maybe it's not the individual rating, but it's the performance overall of the market markets. And we always want to be present and accountable for educating and providing insights.

[Bill Kelly]

Which is a great segue to thought leadership. So I went to your LinkedIn profile and it says click on my website. I said, wow, Ruth has her own website. But then it brings us to the S and P thought leadership, and there's a lot going on there. What is leading your hit parade today in terms of the top couple of ideas around thought leadership?

[Ruth Yang]

The things that we are very focused on are the macro headwinds that we talk about facing credit markets in general, which is the uncertainty that comes from the administrative about the rise of tariffs, how the administration is addressing the management of tariffs in the United States, the response globally to it. We also have to remember that this market has made a substantive transition to a structurally higher cost of funding. Three years ago we were at about 50 basis points or 100 basis points at a borrowing cost, and now we're still at 353.75. We had originally started this year thinking we would expect two rate cuts. I think we're now forecasting one rate cut. With the higher risk of an economic recession because of how dynamics are changing right now. When we think about thought leadership and research, we are very much concerned about the clear risks to credit health and performance. And we have a bigger focus right now on and a rising risk of defaults across the market. We're still not quite there, but you know, to be fair to the credit markets between Covid and then the transition higher for longer and now the challenges that the tariff policy is bringing to us, I think we have to be really thoughtful about how much more credit markets can endure before we start seeing defaults start to really tick up over.

[Bill Kelly]

These last couple of weeks. Everybody is fixated on this massive volume in the equity market. But if there's anything that maybe toned the rhetoric down, it was the bond markets, the real economy, what was going on in the US treasury market that maybe caused some of the minds to say maybe we've gone too far too fast. So maybe people don't pay attention to the credit markets as much. But that is the real economy and the points you raised. It is an important consideration and I.

[Ruth Yang]

Think that people have a better perspective on it today.

[Bill Kelly]

Absolutely. Last but not least, everybody's talking about quantum computing and generative AI. And it's coming from my job when it comes to going in and rating a company. There's probably a list of things, almost a recipe that has to be followed. And maybe the generative AI bot can cover some of this. But I think the human is always going to be important too. Is S and P using this? I assume that you are in some kind of test kitchen, but is a wholesome part of the process. And if it's not, I assume someday soon it will be.

[Ruth Yang]

It's definitely part of one of our priorities, right? I think when you look at us as a company and S and P Global Ratings as division, we are very connected to generative AI. We are trying to find ways very actively to integrate it into our workflows. We still also want to do it in a way that recognizes its role in creating efficiency and scalability. But we also really know that our people, our subject matter experts are also part of the unique recipe that makes SSB global ratings. So yes, we are definitely using it. We've got a lot of places where it helps us process data faster, it helps us generate better visualizations, it helps us process documents a little faster. But we also have 2000 subject matter experts on credit and our analytics team, we're also in there to make sure that we bring that wealth of knowledge and background and all of the connections we make across ratings to shape the future. I mean, I think when we look at something like our ability to rate securitizations in private markets, things that were securitizations in real estate five or six years ago, we're now securitizing a lot more esoteric things. We're not just songwriting, but there's securitizations of infrastructure. There's a lot of very complicated structures that we're seeing. Especially with a rise of private funding. Alternative investment managers are bringing us very unique differentiated structures to rate as part of that, the whole structure and the collateral changes. Having generative eyes part of our toolkit in order to assess large data sets is really, really important. Also having the ability to talk to subject matter experts in songwriting, real estate, all of the different asset classes that we cover, that's also a really important part of who we are. We want to maintain a balance between the two.

[Bill Kelly]

And it's interesting if you think about rating agencies, banks, insurance companies. I spoke on a panel two weeks ago in Atlanta and had the CFO of the city of Atlanta on there. And the amount of alternative data they have. They know who and when flushes a toilet. That is powerful data around water usage and concentration population. So it is quite amazing that I think of Organizations like S and P. And you're already doing this, figures out how to utilize this data. The person that owns this data is sitting in a very, very powerful position. Because if you're going to rely on the Internet as your data pool or your data lake, look at Twitter. There's so much nonsense on there. You don't know what to believe or not believe. But you have good hard and fast data, which I think is a big, big plus today and into the future.

[Ruth Yang]

Going back to where we started this conversation, right, talking about retail investors accessing private credit. What's very interesting is private credit markets are made up of a lot of inefficient information systems. It's a lot of unmapped data. They're in data silos. One of my friends referred to it as data jail, which is probably true because they're unconnected, non standardized, non normalized data. Some of that data is proprietary. Nobody wants to share some of that and that's understandable. But a lot of it, there's an overlap. Like you look at the breadth of information in BDCs, there are pieces of it out there. I think that there is definitely a need. As this market grows and more retail investors engage with it, which is the aspiration of alternative investment managers, to jailbreak that data connect, it diminish some of the situational transparency that exists and create more systemic transparency for the market. So that when I talk to my mom about what's going on in private credit, I have more of a comprehensive data set behind it. It helps to bring clarity and understanding to the market and market participants. And I think that's really important.

[Bill Kelly]

It is. And even talking to your son at 15, I talk about career alpha too. And oftentimes alpha is found in massive pockets of inefficiency. And our whole industry, financial services, no matter what vertical you're in, is going through a sea change unlike anything we've seen going back decades and going forward. And I think for the smart person coming in, or even somebody lower to mid career that's making education their responsibility really could find an awesome home in this industry going forward.

[Ruth Yang]

I think absolutely. And I think young people who come in with an understanding of data sets and gen AI and stuff like that and how to tackle some of these things, maybe my son one day will help us solve some of these problems and connect these data sets. Because I think what's also very interesting is they have a unique perspective on what is meaningful to come out of the data versus what I think it is. And when I talk to people who are younger analysts in our groups. They're looking at those toilet flushes trying to solve for a problem that I would never in a million years try to solve for. But they are right.

[Bill Kelly]

It's remarkable. I learned a lot.

[Ruth Yang]

Thanks, Bill. Thank you for having me here. I appreciate it.

[Bill Kelly]

Thank you for listening to Educational Alpha. I'm your host, Bill Kelly. Learn more about the Kaya association and subscribe to the show at kaya. Org. That's C A I A Org. See you next time.