The Bridge Ep. 01: You Have to Structure the Deal Right—On the Buy

The Bridge EP 01, Jack Neumark/Fortress – Transcript

Sonali Basak (00:00:00 -> 00:00:35)
Hi, I am Sonali Basak and I am the Chief Investment Strategist at iCapital. Welcome to the Bridge. Today we are joined by Jack Newmark. He’s the CO CEO of Fortress, which has $54 billion in assets under management and operates across credit real estate asset backed. Jack, thank you for joining us. It’s a really interesting moment in the markets today. Let’s just take a big step back and just talk about that big umbrella of private credit for a second, because it’s not just one thing, it’s all being painted with one brush right now. What do you make of the sentiment in the market and how you position yourself around it?

Jack Neumark (00:00:36 -> 00:01:51)
Absolutely, and thank you for having me today on, on your podcast. Um, you know, I think when we look at the private credit markets, the way we think about it is it’s everything that a non-bank originator is looking at creating in, in terms of op investment opportunity. So that falls into three main buckets for us. It’s going to fall into corporate credit, into asset-backed credit, and the real estate credit bucket. And even inside each of those categories, you have a number of different ways you can play those, those opportunities. So, if you look at the corporate credit bucket, you can look at BSLs, which most people including us, play through CLOs. You can look at upper middle market lending, you can look at core middle market lending, you can look at opportunistic credit. So even inside each of those verticals, there’s a lot of ways that you can position yourself. And I think, you know, right now what’s going on generally is that there’s a lot of uncertainty in the market. That uncertainty is being created by geopolitical events that are going on in the world. It’s being created by the risk of AI disruption. It’s being created by, you know, concern over liquidity in retail vehicles and potentially what marks are on those, uh, assets inside those vehicles. And so, I think that uncertainty is what the media is capturing when they talk about private credit.

Sonali Basak (00:01:52 -> 00:01:58)
Is any of it real though? I mean, you look around and how do you decide what type of risk you’re gonna take on?

Jack Neumark (00:01:58 -> 00:02:49)
Yeah, I think right now, if you look at, you know, at least on the corporate credit side, let’s start with that. I think credit fundamentals are actually very strong. I think when we look at our book, um, you know, we don’t see any underlying credit quality concerns. And when we look at our competitors’ books and we look in the market, we generally feel the same about how they’re positioned. And so, I, I think the, the concern is not so much about the credit quality, it’s it’s about the liquidity in the market and it’s about how people are looking at, you know, potential risks out in the future. But for us, we’re just gonna keep focusing on what we think we do well, which is, you know, focusing on areas that we have expertise, you know, not taking unnecessary risks and realizing that inside of our book, just like every credit book, there’s gonna be defaults, there’s gonna be losses, but ultimately you’re going to a be judged on what your recoveries are on those losses and what type of returns you generate.

Sonali Basak (00:02:49 -> 00:03:00)
I mean, there’s a moment we’re sitting in right now too that realistically speaking, after so many years of explosive growth for the entire industry, it does make some sense to see a little bit of a cooling off. Would you agree with that?

Jack Neumark (00:03:00 -> 00:03:48)
Yeah, look, I think if you look at the inflows, particularly on the retail side, over the last two to three years, there was a lot of capital chasing credit opportunities. And so, I think without question, you saw people trying to deploy capital. They didn’t wanna have cash drag in their vehicles, and so they probably reached a little bit in terms of LTV or spread, um, or loosening of covenants. And so there are gonna be some loans I think that potentially have problems. Uh, I think most of that is in the upper middle market. I think it’s less, less so in the core middle market. Um, but again, I think that’s part of a natural credit cycle. You’re gonna have some defaults, you’re gonna have some losses, but I don’t see anything in what went on even over the last two to three years that, you know, gives me concerns about some sort of systemic risk in the, in the private credit space.

Sonali Basak (00:03:48 -> 00:04:03)
Right. The reality of the situation is when you look at what’s happening today, the fact that a market is kind of taking a breather for a second is actually kind of great for everyone who’s still in it. It means there’s fewer people who are chasing the same opportunities. Wouldn’t it mean that,

Jack Neumark (00:04:03 -> 00:05:05)
Yeah. So, we’ll have to see. the retail inflows look like they’re going to reduce or flatten or even go negative for a little bit. We were just talking about that, that earlier sort of TBD, um, I think institutional inflows on the private credit side could increase. And I think that’s mostly driven by the, the point you just made, which is, as you know, some of the market participants shake out, or as there’s a reduction in these retail flows, hopefully spreads widen. You know, hopefully you can negotiate, you know, better documents. Hopefully you can create better credit because it becomes more of a lender’s market and, and less of a borrower market. And for the last couple of years, it really was a borrower’s market. And so, I think we’re excited about, you know, the opportunity to hopefully have a little bit of a better dynamic on the lender side. And then of course, if some of these bigger uncertainties come to play that would facilitate more opportunistic, uh, credit opportunities, whether it’s stressed or stressed or liquid credit, we don’t see that happening necessarily, but that is a, a possibility that, you know, certainly would lean into our, our strengths.

Sonali Basak (00:05:05 -> 00:05:17)
Yeah, it’s kind of hard to map out the future, and you think about the last couple of years and how short the opportunities were, were actually were 2020, even 2023, and it, you know, people might be waiting for this downturn that might never come.

Jack Neumark (00:05:18 -> 00:06:12)
Yeah, it certainly, I mean, I, I started as a, as a bankruptcy lawyer that moved over to the distress space about about 20 years ago. And, you know, the distress cycles that, that played out when distressed debt was really becoming in vogue 25 or 30 years ago, were a little bit longer. You had more of an opportunity to, to buy or build into positions and really take advantage of forced sellers. But as you said, over the last 15 years, you know, you really haven’t had anything that’s close to a distress cycle. You’ve had moments in certain sectors. You had the energy crisis in 2016 and 2017. You obviously had COVID for a brief moment, um, when you could try to capture liquid credit opportunities. I don’t know if that’s what this is gonna turn into, but, um, and I, I doubt it’s gonna be, you know, obviously quite as bad as what we saw in the great financial crisis or, or COVID, but there could be opportunities to, to buy in where people are, are no longer active participants where there’s some forced selling in the market.

Sonali Basak (00:06:12 -> 00:06:34)
So, let’s take another step back because we were talking about how people paint private credit with this big brush, but what our clients really keep asking about is how do we look for the next leg? How do we think about other areas like asset backed for example, which perhaps has not had that same runway that direct lending has had, but actually has a bigger total addressable market, arguably.

Jack Neumark (00:06:34 -> 00:07:57)
Yeah so, let’s put aside corporate credit. Um, I think asset-backed and real estate are really interesting areas to be in right now. I think asset backed, and by asset backed, I’m generally gonna be talking about consumer, small business lending, receivables, transportation assets, um, I even put resi, uh, typically in the, in the asset-backed versus the commercial real estate bucket. And I think those are markets that, you know, banks have changed their philosophy on. They are less interested in owning a hundred percent of those loans and they’re more interested in financing counterparties like Fortress or other people on the alt side to buy those, those assets and those flows. And I think for us, you know, that creates really interesting, you know, opportunities for downside protected lending. You know, unlike corporate credit where you’re lending against cash flows, on the asset- back side, you’re typically buying assets that are held inside of an SPV. You have a number of very strict contractual protections. So that ultimately if things do go sideways, you can run those pools of assets off and generate, uh, recoveries that are, you know, usually, uh, much better than a, than a corporate credit, uh, loan that goes into default. So, if you look back over our 20-year history of doing asset backed credit, I think we’ve done 20 plus billion dollars across those strategies, and we have a 0% annualized loss rate. And, and that really is reflective of some of the benefits you can get on the asset-back side.

Sonali Basak (00:07:57 -> 00:07:59)
You can recover hard assets at the end of the day.

Jack Neumark (00:07:59 -> 00:08:11)
Exactly. There’s real cash flows coming in. You don’t need to do anything. You don’t need to sell the assets. You can just let them liquidate over time, take those cash flows in, reduce your basis, and then ultimately, ultimately move on

Sonali Basak (00:08:11 -> 00:08:26)
So, what do you tell people who might be concerned about some parts of the economy? Those are very economy heavy sectors that we’re talking about. People are very worried about consumers, for example. So how do you underwrite in these basis where if we did see a downturn, you would face some issues potentially?

Jack Neumark (00:08:27 -> 00:09:53)
Yeah, so number one, we do have to watch the consumer closely when you’re talking about consumer or, or small business, uh, credit. So right now, the consumer I think, overall looks healthy. There’s some positives and some negatives. I think where the labor market is right now is a super positive aspect for, for the consumer lending space. Um, but you know, again, you have to watch where that is. I would say savings rates have gone, you know, down pretty significantly from where they were during COVID when they, peaked, but they were way above historical norms. Um, but overall, I think we feel good about where the consumer is. Watching inflation. Watching the price of oil, watching the price of gasoline and, and spending power. Um, but I think really where you structure these deals the right way is on the buy. when you’re working with a counterparty on a forward flow, I think from our perspective, we’re concerned about about two things. Number one, we don’t wanna overpay.

Sonali:
Mm-hmm.

Jack:
Um, for the, for the loan. I think that creates a dynamic where you put too much pressure on your loss assumptions, and number two, you want to create really good alignment with your counterparty.

Sonali:
Mm-hmm.

Jack:
By making sure they have, they have skin in the game. So that’s, that’s really what we focus on. And then from a downside perspective, we typically sensitize our returns to look at what happened in the great financial crisis, which is sort of the, the, the worst we’ve seen in modern times, um, in terms of losses on consumer lending books. And if we feel like our capital is protected or we have reasonable downside upside using those types of assumptions, you know, then we feel comfortable, you know, going forward.

Sonali Basak (00:09:53 -> 00:10:06)
Right. They always say, uh, I don’t know if you ever heard that saying, never hire an optimistic credit manager.

Jack:
Yes, that’s good advice.

Sonali:
You have to think about the worst-case scenarios, um, before you’re, you’re getting into the loan to begin with. Right? That’s, that’s,

Jack Neumark (00:10:06 -> 00:10:56)
Yeah, the underwriting and the packaging and the documentation really across any of these strategies we’re talking about is absolutely critical.

Sonali:
Yeah.

Jack:
Um, you need to have the tools to be able to monitor your position. You need to have the tools to see when things go wrong and have the ability to, to get a seat at the table. So that’s why things like covenants are, are critical, whether it’s on the asset-back side or the corporate side. And on the asset-back side, you typically go a step further and you have things like deposit account control agreements and cash monitoring and bank accounts and, you know, uh, stress testing files or, or checking files on a weekly or monthly basis to, to make sure that the cash is flowing where it should flow. So, you have to be thinking about the worst-case scenario, not just when you set up the deal, but when you’re asset managing it. You always sort of have to assume the worst case is around the corner, um, because then you’re gonna see more of these problems earlier and you’re gonna have chances to fix those problems.

Sonali Basak (00:10:56 -> 00:11:35)
So, I appreciate a really kind of sober conversation around some of these complicated topics. At Fortress, you see a lot, there’s another dynamic in the market that I’m really curious about getting your viewpoint on, and it’s all of this private capital rushing into the data center buildout. Um, the reason I would love your opinions here is because of how much you’ve dealt with so many asset back type of, uh, types of situations, the data center boom, I can’t quite put my finger on exactly what it is, what type of risk it is, what type of investment it is. So, at the end of the day, what is the end, end investor actually getting into? What is the risk profile? What are the risks underpinning that sector?

Jack Neumark (00:11:36 -> 00:12:58)
So, number one, we’re we’re big believers in AI. Like we definitely believe that AI is going to change the face of the world. We focus on it internally for investment professionals. We focus on it from an infrastructure perspective. I think from a credit investing perspective, it’s a little bit of a tricky, um, strategy for us. We tend not to be trend followers. We tend to be very bottoms up. We tend to want diversification, so we do smaller positions, not larger. The AI trade so far has been larger position sizes. Um, and, and I think there’s, there’s risk there that you’re not necessarily getting paid for on the credit side, I think there’s been some phenomenal equity stories for AI, but for us it’s been a little bit harder to feel like we have the conviction to concentrate our portfolio, which is almost what you need to do given the size of these investments, uh, in these, in these data center trades in particular. We’ve shied away. Um, we’re cognizant that we may be, we may be missing a, a big opportunity, but I, I think, you know, our investors are looking for us to not lose money and to preserve capital and so we tend to be overly conservative when it comes to, to new opportunities in the market. And I think on the data center side of things, understanding the residual value, understanding the scale, uh, and the, and the speed of the growth are a little bit more difficult for, for a credit manager to, to wrap their head around.

Sonali Basak (00:12:58 -> 00:13:11)
Well, also the energy considerations, we think about the moment we’re in right now, and everything from the cost of helium to the cost of just all forms of energy that you would need to help cool these data centers at the end of the day. I just wonder where it all goes in the end.

Jack Neumark (00:13:12 -> 00:14:52)
Yeah, I mean, there, there’s gonna be, um, I think a lot of requirements to actually fulfill the CapEx needs of, of the AI, um, business model. And, you know, I think at this point we’re not entirely sure who the winners and losers are gonna be. Who’s gonna have access to those resources, who’s gonna be able to have access to, to cheap power, who’s gonna be able to have, you know, all the various component parts that are required at the right price and, and sort of who’s gonna be, you know, ultimately make it to the other side and be successful. Um, so the way we’ve been trying to play it is by focusing on, uh, AI businesses that, that have other use cases, uh, where we feel like we have some downside protection. Um, so give you an example. We bought 30 mobile turbines. Um, that was a, a investment that was largely underpinned by the idea that those mobile turbines would provide supplemental power to data centers. But those mobile turbines have been around for decades. Um, and, and they’re used for all sorts of other things, emergency power, uh, temporary power and emerging markets, et cetera. So there, there are use cases, but we thought that the assets would appreciate in value because of AI. Um, and so that, that trade is playing out in our, in our favor because of the, the lack of access to power. Um, and we did another investment in a, a business that creates component parts that helps cool, uh, various systems. One of the use cases of that is of course providing those components to data centers. Um, so that preferred was protected, you know, by the overall business that provides those components to all sorts of different, uh, you know, business use cases. But the ultimate upside was driven by, by the, the AI data center trade. So, we’re trying to find ways to get exposure but, but not necessarily put all our eggs in the AI basket.

Sonali Basak (00:14:52 -> 00:15:18)
It’s interesting, your, your approach is different than a lot of people’s. I’m wondering, you know, the, the point you made about not having big, concentrated bets, that’s kind of the point of private credit, isn’t it? I mean, you think about these portfolios, they have many, many hundreds of loans often, and therefore one loss does not equate to one that is all that damaging for any portfolio, but what’s happening in a lot of the AI related themes that we’re seeing is something entirely different.

Jack Neumark (00:15:19 -> 00:16:26)
Yeah, I think, you know, there’s different, different investment thesis that different people can, can focus on. I think our view has always been very highly diversified. Um, I think most credit managers would agree with that, like you said, um, I think the problem with, with AI and data center trades is they’re just so big, uh, it’s hard to, to find a vehicle that you can put them in where ultimately they don’t represent maybe a concentration that you otherwise would be uncomfortable with. And, and there’s reasons you could, you could ultimately decide to make that decision. But for us, we’re really focused on limiting industry concentration to, you know, 10% or less. We’re focused on, you know, one to 2% position sizes and we’re trying to create that diversified portfolio that maybe doesn’t generate, you know, as much upside as you would in a concentrated book, but it really helps, you know, reduce your, your downside volatility,

Sonali Basak (00:16:26 -> 00:16:29)
But also, probably a greater spread to public markets still.

Jack Neumark (00:16:29 -> 00:16:46)
For sure. I mean, well, in the places we play on the corporate credit side, and I’d say the same is true for asset-backed and real estate, you know, we’re focused on core middle market, we tend to play in a little bit smaller ticket size than some of the more scaled, uh, direct lenders or scaled, uh, private credit folks. And so, for that, we, we are able to extract incremental spread.

Sonali Basak (00:16:47 -> 00:17:27)
So, speaking of spread, I mean, one of the things I really wanted to understand here is, um, that this is structural, right? The reason we are here talking about private credit in 2026 is because we went through 2008, the banks changed. We went through 2020, the system changed again. We went through 2023, the system changed again. And now we sit here today and there are actually a lot of holes in lending markets across the American economy, let alone the international one that you’re feeling. Um, what comes out of all this, right? Where are some of the areas you started to talk about asset back, but how do you think about where the banks have stepped back and where you guys are stepping in?

Jack Neumark (00:17:27 -> 00:17:42)
Yeah, look, I, I don’t exactly know how the regulatory market is gonna shake out in the US and whether or not banks will feel that they have more flexibility to lean back in, to some of these, um, origination activities that they clearly have stepped out of over the past 5 to 15 years.

Sonali Basak (00:17:42 -> 00:17:44)
Or if they have the talent to do it anymore.

Jack Neumark (00:17:44 -> 00:19:08)
Right, and, and or if they have the appetite from a, a profitability standpoint,

Sonali:
right

Jack:
So, the, the way the world sort of looks right now from my perspective is banks are actually still very active in real estate credit, asset-backed and direct lending. But instead of being the tip of the spear and being the one that goes out and originates that credit, they’re providing facilities and loans to the private credit managers that are out creating that risk. So, from a bank’s perspective, again, I don’t know how all the bank CEOs think about it, but to me it makes a lot of sense because they have more capital efficient, um, loans when they do loan-on-loan and they have equity cushion provided by the private credit managers. So, I think those are, are more capital efficient, uh, investments for the bank. And I think there are higher margin businesses for the bank as well, because they can manage 50, 100 different private credit manager relationships and deploy a significant amount of capital versus trying to go out and originate all of that risk on their own. So, I, I think there is some balance here where it’s a win for the banks and it’s a win for the private credit managers, but it sort of depends on what areas you start intruding into. You saw the back and forth between upper middle market and BSLs, and I think the banks very much wanted to make sure people knew the BSL market was something they were going to be involved in, and they were not let market share erode in that particular part of private credit, but it really is gonna be market driven, what’s going on in the cycle and what areas the banks feel like they have a right to win in.

Sonali Basak (00:19:09 -> 00:19:24)
Right. And, and to the point about BSL, I mean, people forget that the direct lending market is as big as the BSL market now and as big as the high yield market by many measures too. And, and that to me implies that the growth has to come from other areas in private credit, like asset backed.

Jack Neumark (00:19:24 -> 00:19:31)
Yeah, I think asset-backed is a, is a big one. I think real estate credit is one, you know, I, I referenced it earlier. We didn’t, we didn’t talk about it,

Sonali:
But let’s get into it, you know, this is a year that people are excited about real estate again.

Jack:
Yeah,

Sonali:
let’s just put it out there. They, they are.

Jack:
Yep.

Sonali:
So, so what is that opportunity and what would keep it from achieving its promise?

Jack Neumark (00:19:41 -> 00:20:43)
Well, so I think, you know, the banks clearly pulled back from real estate in ‘22 and ‘23 with the Silicon Valley Bank crisis and Signature bank crisis. I think a lot of small regional banks realized that they had too much exposure sitting on their books. And so that opened the door for private credit to really get back into real estate. At the same time, you had obviously rising interest rates and, um, a real estate depression really that’s been, you know, occurring for the last four or five years. And so I think why people are excited right now is if you’re a real estate credit provider, you can earn really attractive levered returns by lending against real estate that has a lower LTV than ever before, and has a base valuation that’s using a cap rate that has been normalized as a result of the last four or five years. So as a credit manager providing that real estate loan, you feel like you’re really getting not just a good LTV, but the V is very conservative as well in that LTV equation. And that gives you a lot of comfort on, on your overall risk profile, but you’re still earning attractive returns and it’s a huge market.

Sonali Basak (00:20:43 -> 00:20:49)
So, what is your strategy around real estate? How, how, what corners of the market are you guys excelling in?

Jack Neumark (00:20:49 -> 00:22:02)
So, you know, we’ve, we’ve been in real estate credit for, for a long time, really since the, the Fortress credit and real estate business began. I think we look at the market sort of in two main buckets on the credit side. We look at sort of the up market, lower risk, uh, mortgage debt, um, opportunities. And so that’s gonna be stuff that we view as absolutely super safe, really bank replacement financing. It’s stuff that banks used to do a lot more of where we can be competitive, um, because we have a lower cost to capital for that particular strategy. And then we have the higher yield real estate credit strategy, which is going to be, you know, a little bit more risk. But ultimately, we feel still underpinned by, by great real estate assets. We’re gonna be focused on the US Europe, uh, and a little bit in Australia, but predominantly the US and Europe. Um, and I’d say overall, when you look at our portfolio, it’s gonna be multifamily heavy right now, but that’s gonna move around based on, you know, how we see the market develop. We will do a little bit of office, but it’s gotta check all the right boxes, we’ll do a little bit of industrial, but again, it’s gotta check all the right boxes. Um, but I think there are really good real estate assets out there, and if you have the right structure and the right, the right piece of property, I think that’s, that’s a great way for private credit to, to grow and diversify.

Sonali Basak (00:22:02 -> 00:22:19)
You know, Jack, before I let you go, I, I just feel so very much like your history in this market really tracked kind of the direction of travel and all the ways finance has changed over the last decade or so. Uh, you started as a lawyer, how did you go from winding your way through the legal profession to the top of Fortress?

Jack Neumark (00:22:20 -> 00:23:56)
Yeah, so, um, it’s been, it’s been a great journey. Um, I started off my career at two firms, Simpson Thacher and Wachtel, mostly focused on credit and, uh, bankruptcy law. And when you go back in time and you realize distressed debt was one of the most popular alt strategies 20 years ago, a lot of these managers that were growing were trying to build out their capabilities in distress debt situations and that oftentimes meant pulling a bankruptcy lawyer onto the team to be a hybrid type of role, helping out with the distress debt underwrite, and ultimately the bankruptcy process and navigating what the bankruptcy court may do in various scenarios. Um, and so that was my, that was my way to transition. And so, I moved over from the law firm world to the alts business in 2008. Um, and then I took that opportunity to, to, you know, try to learn as much as I could about distressed debt investing. Distressed debt is ultimately credit, and so as the distressed debt market, you know, reduced in size, I ended up focusing more on opportunistic investments. Um, started a, a legal assets business at Fortress, which was a very specific form of opportunistic investing, um, focused on opportunistic investments on the asset-back side and sort of gradually, uh, developed a, a skillset that I think encompassed a lot of what what Fortress does, um, and was able to to, you know, um, ultimately move, move, move to the top with Drew. And I’m super grateful for sort of all the, the help that I got from Fortress over the years because it really is the breadth of our platform, I think, and sort of the, our openness to, to working with entrepreneurial people and, and new investment ideas that allow me to, to get to where I am.

Sonali Basak (00:23:56 -> 00:24:09)
Yeah, it’s such, it’s such an interesting journey. I mean, lastly, before I let you go, also, I mean, it’s clearly the wealth channel has been a really interesting space for you. Um, we’ve gotten the great opportunity to work with you guys there. What’s interesting about it to you? Why wealth?

Jack Neumark (00:24:10 -> 00:25:42)
Yeah. Look, I think that there is so much untapped, uh, potential in the wealth space. I, I think everyone sort of can relate to the wealth space. I grew up in the Midwest. I grew up in Ohio. I’d never heard of a private equity manager or a hedge fund until I, I got to law school, really. Um, and so I think when you look out at the world and you see these opportunities, I, I think it’s really interesting to feel like you have these big distribution platforms now that are trying to offer, you know, alternative credit exposure, alternative equity exposure to the mass affluent across the United States. And, and I think we believe in the story that ultimately these portfolios are gonna have a bigger component of alternative investments. And for us, you know, that’s a very valuable, um, you know, alternative to the institutional channel. We’re, we’re always gonna be in the institutional channel. We’re about 90% institutional right now. Um, and I think institutional investors are incredibly important to the ecosystem, but I think having that balance and that democratization as they say, uh, of the alts business across, across the platform is, is incredibly attractive to us. I also think some of the vehicles and some of the, the cost of capital, the way to think about risk, um, it’s good for your, your, your mind when you go through and you try to make sure you’re structuring products for different end investors in mind. I think that actually makes you a better investor. You have to really focus on liquidity, you have to focus on, um, distributable yield. Um, things that may on the institutional side are not as big of a focus. And so, I think that’s actually good for our platform to be looking at, you know, all the different end investor types and trying to create opportunities that are good for them.

Sonali Basak (00:25:42 -> 00:25:51)
Good for the market too. Absolutely. Jack, thank you so much for joining us. That is Jack Newmark at Fortress. He’s the Co-CEO there. And you’ve been watching the Bridge by iCapital.

END