Webinar Replay: Q4 '26 Asset Allocation Viewpoints

Asset Allocation Viewpoints webinar October 27, 2026

Sébastien Page, Greg Leveto, Christina Noonan (moderator)

Christina Noonan

Hello, everyone, and welcome to this quarter's Asset Allocation Viewpoints webcast, Market Crossroads, brought to you by T. Rowe Price. I'm Christina Noonan, a portfolio manager within Multi-Asset, and I'll be your host for today's discussion. We have a lot to cover today. Markets have been navigating some competing forces, from the AI investment boom to higher interest rates to growing attention on private credit.

So today we'll explore what these developments mean for investors and where we're seeing opportunities and risks, and not to mention how we're positioning portfolios in this environment.

So now let's introduce our panel.

Joining me, as always, is Sébastien Page, our chief investment officer and co-head of Global Investments. Sébastien also cochairs our Asset Allocation Committee, which oversees our tactical investment views. You may also recognize him from Bloomberg, CNBC, or LinkedIn. And he's the author of two books, Beyond Diversification, as well as The Psychology of Leadership. Great to have you here as always, Sébastien.

Sébastien Page

OK, before we get started, I want to say, as usual, I'm fired up. I'm drinking too much coffee. But also especially fired up because we have Greg Leveto here. And I know what he's going to say. So in 1897, a journalist contacted Mark Twain and asked Mark Twain, “I heard you're in bad health. There are rumors that you might be dead.” Greg, do you know what Mark Twain said?

Greg Leveto

I do. I do.

Sébastien Page

What did he say?

Greg Leveto

He said, “the rumors of my death are greatly exaggerated.”

Sébastien Page

So I think today Greg is going to say, “the rumors of private credit's death are greatly exaggerated.” Sorry, that was a long hello. Hello.

Christina Noonan

All right, looking forward to it. So yes, we're also very pleased to welcome our special guest, Greg Leveto, portfolio manager and partner at Oak Hill Advisors. For those of you who may be less familiar, Oak Hill Advisors, or OHA, is a leading credit-focused alternative investment firm with more than three decades of experience in credit markets and approximately $112 billion in AUM. T. Rowe Price acquired OHA in late 2021, and we're delighted to have Greg joining us today.

A little background on Greg. He brings extensive experience across credit markets. He is currently CEO of OHA's Multi-Strategy Interval Fund, available to U.S. investors, and runs the Real Assets business. Prior to joining OHA, he held senior roles at Deutsche Bank, where he led the Transportation, Infrastructure, and Energy Financing Group, and at Goldman Sachs, where he worked in the hard asset trading group, among other roles. So great to have you here.

Greg Leveto

Thank you, Christina. Thank you, Sébastien. Excited to be here.

Christina Noonan

All right. So given the growing role of private capital in today's economy, we're particularly interested, as Sébastien said, in hearing Greg's perspective on the opportunities and risks he's seeing across credit markets. All right. And so, as always, audience, we want to hear from you, too, so please keep an eye out for polls and continue to share your questions with us.

So with that, let's get started with you, Sébastien. Markets have struggled to find clear direction recently. Competing narratives around AI, inflation, Fed policy, earnings. What are you paying attention to and what do you think drives the next leg of the market?

Sébastien Page

We just had an Asset Allocation Committee meeting. It's clear that the two most important themes are AI and oil. There's a committee member that suggested we look at the world in two dimensions: AI on, AI off; war on, war off. Asset classes relative to each other will behave very differently depending on where we are in that matrix. So we're debating that.

On rates, there are many suspects for why long rates are rising. Why are long rates rising? Growth, inflation, issuance, deficits, higher foreign rates, the term premium. I'll leave it at that for now. They're all pointing towards higher rates. Ultimately, we've closed our duration overweight. We are now neutral, but we're still hedging for inflation because at these rates level, rates are starting to behave a little bit more as a hedge to growth, shocks, or equity sell-offs. We've seen this as we record this over the last couple of weeks.

On AI, my view is that it's a valuation debate, not whether there's demand or not. Remember, Christina, a year and a half, two years ago, people were asking, show me the monetization. Show me the money of AI. We're building all these things, but these companies aren't making revenues. Now we're looking at Anthropic growing
their annual rate of revenues from $5 billion to $70 billion in 12 months. So it's no longer a question of monetization.

I think I said at the last webinar, I don't know if I said it or not, but one of our portfolio managers at the time, when we were all debating how are we going to monetize AI, the portfolio manager said to the Asset Allocation Committee, “don't worry. We're in the crack cocaine phase. We're getting everybody addicted. We'll just charge you later.” And that's what's happening. Only about 20% of companies, by some estimates, have deployed one agentic process, just at least one. 20%. Estimates are that 80% will. We're just scratching the surface. So it's a valuation question. Is the market expecting even more than what is reasonable to deliver with the supply and demand and balance and compute and so on?

But in general, on valuation, and I hope we're going to talk about this today, I want everyone to be careful interpreting historical charts that say that the stock and credit markets are expensive. I get worried when that becomes the entire narrative. In the Asset Allocation Committee, fully invested with a moderate overweight to stocks, and an overweight to actively managed high yield credit. Inflation, in my mind, is the main underappreciated risk.

Now, I know I'm going to look at the questions today. I'm sure I will get a question. Why did you close your treasuries underweight if inflation is the underappreciated risk? Because we hedge a lot of the inflation risk with real asset strategies and energy stocks. And at the moment, we think rates have gone up quite a bit.

If you look at an analysis of prior oil shocks of 40% or more, which we've just had, and you go back in history and you calculate the subsequent 12-month core inflation, core inflation, following a 40% oil shock, the average core inflation, going back to the ‘70s and, you know, the world has changed, but nonetheless, It's not the target of 2%. It's 4.9%. Following 40% oil shocks, historically, core inflation on average has been 4.9%. This narrative that you should just ignore oil and energy and food and just look at core because these other things are volatile. No, you need energy to deliver any goods and services, and there's significant lagged effects, and the market may be underappreciating the inflation risk. That's where we are.

Christina Noonan

So AI, oil, a lot to unpack there. We'll come back to each of those. But also want to touch on momentum. It's been such an important part of the market story over the past few years. A little more tricky recently. How are you thinking about momentum in the current environment?

Sébastien Page

Momentum has been remarkably strong. As of the end of June, if you followed a simple, naive momentum strategy, For the prior three years, you would have outperformed the S&P 500 by-- are you ready for this? 40% per year, annualized, 40% alpha, just chasing returns. You go every month and pick the top 10 stocks based on the prior 12 months of returns.

This has changed. We've had a reversal in momentum, and we're in the middle of an uncertain period as to whether momentum will continue or not. The only thing I will say about this is that while the performance of momentum is comparable, the only time in history that it was similar to the late ‘90s leading up to the tech bubble, today's momentum stocks have seven times the margins of the momentum stocks of the late ‘90s. Seven times the return on equity, so much higher sustainable earnings growth, and one-third the price to cash flow.

So, I'd be careful just comparing the tech bubble with what's going on now. There's speculation for sure, and we'll debate this today. But the question of momentum is one that drives performance in all portfolios right now.

Christina Noonan

Great points. So Greg, let's bring you into the conversation. Particularly timely to have you joining us, given everything happening in credit markets. We think of private credit, broad, diverse area in the headlines. Can you talk about what's going on in private credit and how OHA participates?

Greg Leveto

Thanks again, Christina and Sébastien, for having me.

I think it's important to start with what OHA does, because private credit is a really broad term that I think we use perhaps too broadly at times. So OHA is $110 billion asset manager. We're focused on large cap private credit. That's about a $40 billion to $50 billion business for us in terms of assets under management. Right next to that, and we run our asset management and our research functions in an integrated way, sits our liquid non-investment-grade trading business, which is another $40 or $50 billion for us.

And when I say that we are focused on large-cap private credit, I think that's an important place to start because we think it's different than regular way middle market lending in smaller companies. So when I say large cap private credit, we're talking about businesses that tend to have over $100 million of EBITDA or more, businesses that have billion-dollar-plus enterprise values. And we really do that for two reasons.

Number one is: we deeply believe that businesses with those profiles tend to have better recoveries over long periods of time. And as a credit investor, which OHA is at its core and where we're focused, not losing money is the key to making money. And in businesses like that, we think there's better barriers to entry, better leverage with suppliers, better leverage with customers, higher quality management teams, better third-party auditors, accountants, advisors, et cetera. So that's one reason is we believe in the fundamentals of that part of the market.

The other reason is it really is able to be invested in tandem with the liquid markets that we're focused on. And so there is a graying of the markets between the broadly syndicated loan market or the high yield bond market: what's tradable, and what's happening in private credit. And most of the companies that we do business with really have a choice between those two markets.

So, the next logical question would be, well, why would a company choose private credit? Because if I back up one step for a second, in private markets, we tend to see an ability to earn 150 to 200 basis points of incremental spread versus what we would be able to charge as a lender in a syndicated market.

So why is that happening? I think that's an important place to start.

Sébastien Page

And that’s before leverage?

That's before leverage. That's unlevered. So the assets that are today between 450 to 500 and over spread, when you think of where SOFR is and a little bit of upfront fees, you're talking about a 10% unlevered first lien asset in secured credit. And we're generally 40 to 50% loan to value of these companies. Most of what OHA does is sponsor backed. It often is, the vast majority of the time is new money. So real Vs, right, a sponsor voting with their feet or another business owner voting with their feet, where we're lending 40 to 50 cents and making a 10% unlevered return.

And you're right to point that out because gas asset class lends itself well to leverage in BDC format or in other formats where mid-teens returns is, you know, we think it's a really great way to make mid-teens returns, and we've been delivering that for a long time. But so the question I think is why are companies using private credit, right? If you're able to earn more, why wouldn't the company go to the broadly syndicated market?

And I think the answer to that is there are real features that a private lender can bring to a borrower that are valuable. You don't have to deal with rating agencies. It's a big one. You have certainty of execution, meaning you're dealing with sophisticated counterparties who can move quickly and deliver you what you need in a timely manner.

And thirdly, businesses are essentially, more frequently what sponsors are buying are businesses where there's something to do. There's an expansion into new geography, there's extension of products, maybe there's a restructuring, there's incorporation of new technologies, a lot of stuff we're going to talk about today. Knowing your lender and having a partnership relationship with your lender in the grand scheme of your investment goals is powerful. And doing that while dealing with rating agencies and syndicated to dozens and dozens, if not hundreds of CLO buyers and hedge funds can make that really cumbersome.So borrowers are paying more for similar risk by having that relationship. And we call it an illiquidity premium. That's the right way to say, well, why are we charging more? We're charging more because there's an illiquidity amount. So now what has happened in that market? You said it's very timely. There's disruption. That perhaps would have been more true three months ago. A lot of that noise has seemed to have abated..

But what happened? Why was the market freaking out about private credit? I think there's a handful of things. Number one is, while the broadly syndicated markets, the loan market in particular, it's a different answer in the high yield market, but in the broadly syndicated leveraged loan market, about 15% of that market was to software credits. And in the private credit market, you have that number up into the low 20s. So a little bit more software exposure. That was an area with all of the AI things that we were talking about and the rapid acceleration of the large language models. The market was scared. Equity, credit, really every market was scared at the beginning of the year. Private credit had more of that.

Another reason was there started to be some questions about the integrity of marks in some of the portfolios. And I actually think that's a really healthy question for investors to ask. We take great pride in our marks. I think many of our largest peers do too. But you see less volatility there. And that's a reasonable question for people to ask.

I think third is a lot of asset managers aggregated a lot of assets very quickly. So there was a question for many of the players is, did underwriting standards deteriorate because people had a pressure to deploy? Again, a really good question and a really fair question for the market to ask.

And all of that led to a bit of a run on the bank, if you will, which is people in private BDCs or other private credit funds that had the ability to redeem, did redeem. And that became self-fulfilling in its own way, because when you see redemptions, you know, again, I use the expression run on the bank, you know, you have that sort of momentum in the wrong direction.

Then there was a lot of concern that, hey, I had 15%, 20% redemptions, By the way, OHA had very little, virtually rounding to zero. But some managers had large redemptions, 15%, 20%, 25%, and they paid out five. And the market said, see, they can't pay out more than five. And that's where the story became sensationalist, in my opinion. And we can go back, as we go through this conversation, about other parts of the story that missed the bigger picture, which I'll get to in a second. But the story became sensationalist around the BDC and the private BDC complex. Because the 5% redemption was often referenced in the press as gates or not being able to meet redemptions. And the reality is, is that if you're going to seek an illiquidity premium, the feature of the product is it only offers that much liquidity. So that has stabilized. The sensationalism has subsided. And the other questions have become more into focus.

And what we've been finding is, I think the market's getting more comfortable that private credit, at the end of the day, is credit by another name, you're still going to have mid-single digits to low single digit defaults. It's a $2 trillion market. So if the long-term average in the syndicated loan market is 5% per year defaults, you could expect, it would be reasonable to expect the long-term default rate in private credit would be about $100 billion a year. We haven't seen anything like that.

Sébastien Page

So Greg, this is important. Defaults have actually been running lower than historical averages.

Greg Leveto

So I would say a few things. Some of that is noise because liability management exercises, or what we refer to as lender-on-lender violence, has become a little bit more of the solution for folks, which artificially keeps defaults low.

However, you are right that when you look through our portfolios, and again, I'm speaking about the large-cap part of the market and the broadly syndicated loan market, the high yield bond market, when you look through, companies are healthy. No different than what you see as you traffic, and I know you traffic in all asset classes. But when you look at the equity markets, earnings growth has been strong. Margins are solid. If you look at the interest coverage ratios in the broadly syndicated loan market, they're exceptionally high. If you look at non-accruals in BDCs, the actual fundamentals of the loans, they're reasonably in the range of historical levels. In fact, for a lot of lenders like OHA, lower than historical average. The percentage pick is single digit.

Sébastien Page

And I guess it turns out software is part of AI, facilitates AI rather as a general statement, but rather than being completely displaced or cannibalized by vibe coding.

Greg Leveto

So I think it depends. Again, much like saying alternatives is very different whether you're talking about venture capital or private credit, or if you're saying private credit, if you're talking about large-cap, small-cap, or you're talking about recurring revenue lending or venture lending, I think it's similarly dangerous to talk about software as a thing.

Oak Hill's focused on large-cap enterprise software, places where the software itself isn't the product, where it's just an integral piece of a company's workflows and operations. And we believe deeply that the enterprise software companies that we have underwritten and that are part of our portfolio are beneficiaries, not all of them, but many of them, are winners of AI. They are the delivery mechanism for AI. And so when you're in highly confidential, highly regulated, highly complex mission-critical businesses, the incorporation and adoption of AI through your existing system, we believe, is a really good outcome. So I would say we are not buyers of software beta in credit, but we are buyers of good software. And so there's been real opportunity in that space where the proverbial baby is thrown out with the bathwater.

Look, we've never made a recurring revenue loan in our firm's history. I think a lot of sophisticated managers have avoided those parts of the market. We're less exposed to the consumer. And we think that by and large, those are really solid businesses, and many of them, in fact, are winners. And so I think, but the software answer is one that's still going to be answered. I mean, the CEO of our firm and the CIO of our firm often say we're disproving a hypothetical, which is a hard thing to do, because you haven't seen fundamental deterioration performance. It's the fear of what is coming. And I think so this isn't something that's going to go away. This has been a big part of our underwriting for a long time. It is an even bigger part of our underwriting. It's accelerating. So there will be winners and losers, but there's a real opportunity in the market with baby being thrown out with the bathwater to identify winners and make really great risk-adjusted returns.

Sébastien Page And the death of...

Greg Leveto

Has been greatly exaggerated, yes, I would agree with that. Look, I would say this. Equity markets have rallied. We've been in a bull market for a long time. There's a lot of concentration risk there, a lot of it exposed to very large companies. We have a very supportive, a very large, a very attractive base rate relative to recent performance. We've got spreads where you can pick up an illiquidity premium and you can make 10% in senior secured asset. It's a really supportive backdrop for credit. And so, you know, we're seeing that from a lot of our institutional clients. I think we'll see that more from the wealth channel, but, you know, time will tell.

Christina Noonan

Thanks, Greg. A lot of helpful context there where OHA plays, differences between public and private markets, as well as quelling some of the fears that we've seen around private credit.

So as we dive deeper into some of the forces shaping markets today, let's bring our audience in with our first poll. We've talked about some of these risks already. I'm curious which stands out the most to you. And also, please share your questions with us. We'll try to get to as many as we can.

And so as we hear from our audience, Sébastien, as CIO, you have a unique vantage point across our investment platform, get to hear a wide range of perspectives. And that's one of the things about our culture that encourages debate, not having that single house view.

Could you give us a glimpse behind the curtain into one of the biggest debates right now is around AI. Are we in a bubble? And does this rally still have room to run?

Sébastien Page

It looks like in our audience, we have an almost perfect split between AI and inflation, and then as a third consideration, earnings or earnings economic or earnings slowdown, which these things are all related to one another. But we have a debate in the audience, and I don't like to upset anybody.

So I will give, as I often do, our favorite sport is a bull versus bear debate. I will give both sides, but I'll tell you where I stand. Let's start with the bubble talk.

Traditional valuations say that the market is in the bubble. So traditional valuations say the equity risk premium is basically zero. You can look at the earnings yield and take out the 10-year yield. You get zero. That's very compressed equity risk premium. In other words, bonds are competing with equities a lot more than they did when rates were at zero.

The CAPE ratio, which is a valuation ratio that looks at the last 10 years of earnings trying to smooth out the business cycle, is in its 99th percentile. It's at 40. The Buffett ratio, the value of the stock market divided by the GDP, is at an all-time high, 2.4 times. The stock market is worth 2.4 times GDP.

Jeremy Grantham went on CNBC a few weeks ago. I don't know if you caught him, but he said, and I quote, “this is the most expensive market in American history.”

OK, so this is the bearish side. If you want to bring in the AI arguments, the AI arguments was there's an oversupply, token cost is crashing, and if there's no oversupply, we're just sleepwalking toward an oversupply in the whole trade crashing because the market's pricing in too much growth relative to AI. That's the bearish camp. If you're in the bearish camp, take some notes, go to your clients and explain why we're in a bubble.

Now I'm going to give you the counterpoints. The S&P 500 is essentially now a tech index. It has double the margins that it had 10, 15 years ago, much higher sustainable earnings growth. Therefore, historical charts that don't adjust for that are misleading. And I want to pause here. If you say the price/earnings to growth ratio is 40, 99th percentile, you're looking-- a lot of people like to look back 80 years at a history of valuation. And they look at this and they're like, “oh, my God, this is as high as it was during the tech bubble. It's going to crash. It's a bubble.” But you have to remember that the S&P, under the hood, has changed completely.

I was preparing for this discussion, and I was looking for an analogy. It turns out there is a famous example that's called the Ship of Theseus. Ever heard of the Ship of Theseus? So it's this thought experiment where you have a ship, and then some of the planks start to rot. So you replace the planks. Now, if you keep doing this, at some point, the entire ship has been replaced. And it's a philosophical thought experiment where you ask, is that a new ship or is that the same ship?

Well, the S&P 500 in the '50s had 425 industrial stocks. For most of the '50s, '60s, '70s, '80s, it had over 400 industrial stocks. Now, this is industrial, broadly defined. But why does it matter what the valuation was back then, now that you have a tech index? So it's the Ship of Theseus. The index, the business models, the revenue streams under the hood have all been replaced, and you're looking at a different index. The price/earnings to growth ratio actually shows that the S&P 500 is trading very cheap, close to a 30-year low. You take the five-year expected earnings growth, and then you take the price/earnings ratio forward 12-month, and you just adjust the valuation, the price/earnings for the earnings growth, you get 0.7. Draw the chart. It's like a 30-year low.

Now, this is remarkable. This is going to be in all my presentations for the next few months. Because you have the CAPE ratio that says valuations are at the peak. And then you have the price/earnings to growth ratio, because earnings growth is phenomenal. That's the valuations are at the bottom.

So the bull versus bear debate continues. Compared today's top 10 stocks, I mentioned earlier with those at the dot-com peak. Today's top 10 stocks, in terms of their last 12 months of return, their margins, I mentioned earlier, seven times higher, ROE seven times higher, price to cash flow a third. Ship of Theseus, things have completely changed under the hood.

Ultimately, valuation takes a backseat to the supply versus demand for compute debate. I've heard estimates that the demand for compute to build out AI and the ultimate demand for the applications is about 13x the current supply. Both are hard to estimate. It's just hard to estimate this. You can say, I don't know. We're talking on our investment platform. We have the top tech, I believe, we have the top tech analysts in the world. And they're debating this. How many gigawatts? You have to think about it in terms of gigawatts, not tokens, because the token price and the efficiency of the chips makes it such that the cost to use a token is plummeting, and therefore monetization won't be there. But then the demand is going exponential.

So these two forces we're debating. Gigawatts is interesting. When you say we're going to get an extra 6, an extra 10, an extra 15 gigawatts of capacity to produce, to consume AI. That takes into account the fact that the chips are getting more efficient and the token price is cratering. But this debate is unresolved. Hard to estimate the supply, what's coming online, hard to estimate the demand, and hard to estimate what the market's actually pricing in. We know it's pricing in a whole lot. But the debate continues. The Asset Allocation Committee remains fully invested, modestly overweight stocks, and just remember, my takeaway here is valuation is in the eye of the beholder.

Greg Leveto

Let me jump in here, because I know there's an AI question, there always is these days. I would say when a good credit manager is trying to position themselves for nine of the next two recessions, and we believe there is a lot of supply coming to build the infrastructure that was just discussed. And while we are very supportive of providing capital to help bring what we think are good projects to life, we definitely are seeing things that we would describe as, I don't want to say not good projects, but perhaps riskier situations than credit investors should be taking. And we have to be cognizant of with an investment super cycle like we're going through, there are not a lot of times in human history where we land that plane perfectly and match supply and demand. And so again, I think your perspective on it is different based on the type of market you're investing in. And so for a credit investor, I think we have a view that there is so much supply coming, there is so much execution to take place. It's a wonderful investment opportunity, but we probably haven't seen the bottom of spreads for a lot of this. And it's going to be a source of outperformance for an active manager.

Sébastien Page

It's just so, you have to be able to say once in a while, I don't know.

Anthropic just put out their filing for their IPO. It's 335 pages. OK, I dragged it into ChatGPT. And I said, give me the most optimistic quote and give me the most pessimistic quote. And you know what came out? The most optimistic quote from the Anthropic paperwork, 300 pages.

Christina Noonan

You didn’t use Claude?

Sébastien Page

I should have used Claude.

Greg Leveto

May have got a different answer.

Sébastien Page

I wanted to use ChatGPT because I thought it's going to be unbiased. The most optimistic quote is basically, this is going to change everything. It's going to be bigger than electricity, industrial revolution, railroads. It's going to change everything we do.

Greg Leveto The internet.

Sébastien Page

The internet. Across humanity.

And then the most pessimistic quote is basically, and I don't like, I know it's serious and I don't want to sound like I'm making light of this, but, they're pretty serious, I think. And I've read a lot about what the researchers are thinking, the people that are building this. It basically says it could kill us all. So it could be just a real risk to humanity. That's in their 300-page document. So we'll see.

Christina Noonan

Yeah, scary stuff. And Greg, so we've seen debt markets playing an increasingly important role. How much runway, I mean, the debt numbers have doubled this year since last year. How much runway is there?

Greg Leveto

Yeah, I think there's a question of, so it's complex. It's really complex because there is no question. The question is not which markets are going to support the build-out. It's the question of what role is each market going to play. That's the only question.

And if you look at—and there's a wide range of research on the topic—but if you look at consensus, let's say, there's six plus or minus trillion dollars of projected capex between now and 2030 for infrastructure. And that's a big number. If you adjust it for GDP, it's the biggest investment cycle we've ever gone through, bigger than the rail rates, bigger than the interstate highway, bigger than, et cetera, et cetera, et cetera. And if you think of the role that each market needs to play at that scale, you start to get to some numbers that feel really hard to digest. 15%, 20%, 25% of the high yield market.

It doesn't feel likely to us that the market is going to just wave that in, meaning the market's going to have to evolve in terms of structure. There's going to have to be a way to create diversified portfolios for it to get to that scale. And we have real doubts that it will get to that scale. I'll give an example.

We spend a lot of time with our insurance clients, and many of them have reminded us that when you run a credit portfolio, especially a high-quality credit portfolio like an insurer, you have position limits regardless of your credit. So you might think Google or Microsoft or Alphabet are some of the best, I should say Alphabet or Microsoft or other hyperscalers are some of the best companies in the world, and they are. They certainly generate enormous amounts of free cash flow, have huge equity market capitalizations, have tons of resources. But if you're an insurer, you still have a single issuer limit of 50 to 100 basis points. Maybe some of the more aggressive insurers out there might pick 200 basis points. Well, if you're $100 billion insurer, that means maybe you have a billion dollars of risk for a single name. I can tell you that we have, as all investors, alternative non-investment grade investors, tens of billions of dollars of projects that are under construction right now on our desk at the moment. So there is just simply a capacity question that the market's going to have to answer.

Now the positive is a lot of this is banking, a lot of really valuable real estate. Let's call it real estate for a second. And it's supported by some of the best companies in the world. So maybe the paradigm changes. But either it's going to have to happen more slowly, we're going to have to change structures, or there's going to have to be a philosophy change about the way people manage their portfolios.

And our guess is that leads to some spread widening, which we think is going to be a fantastic investment opportunity. So I think the key for us, we've done a lot in renewable energy. We've done a lot in the midstream build-out in the U.S., other kind of similar investment cycles, albeit much smaller. And I think the key is to focus on really good projects because I agree with, there is an overarching principle that we agree with, which is If you have powered capacity, if you have the ability to deliver compute, we as a society are going to be short for a long time. That's going to be a really valuable asset. The key is to not get caught in places where we are funding credit dollars that's really equity risk, where that is not the asset that ultimately is created or no asset is created. And I think there are going to be some mistakes. There's going to be these digestion issues. So it's a wonderful topic, but it's also a really, really big opportunity.

Christina Noonan

Great discussion on AI, increasingly complex, and I think underscores the importance of being selective in this environment. So let's move to rates, another key force in today's market. I have another poll for the audience. What do you think the path of rates, the 10-year specifically is from here? Meaningfully higher around current levels or meaningfully lower? We'll define meaningfully as around 50 basis points or so. And so as we hear from the audience, Sébastien, want to hear from you. You touched on it a little bit earlier, but what has been the driving force or forces behind higher rates?

Sébastien Page

It's interesting. The survey is showing that there's a skew to the right. So as we record this, we're around 5%, and it's 56% around current level. But the number of votes that are saying it's potentially meaningfully higher is higher than those that say it's positively skewed.

That's an interesting result.

But why are rates rising, especially long rates? That's part of answering the answer. There is an old book, I don't know how many decades ago, from Agatha Christie, Murder on the Orient Express. Did you ever read that book?

Greg Leveto

I did.

Sébastien Page

It's an interesting book because it's a whodunit, so you're trying to figure out which of the suspects committed the murder. But then at the end, it turns out they all wanted to deny accountability for the murder, so the twelve suspects are guilty of the murder.

And when you look at growth, inflation, oil prices, foreign rates, fiscal deficits, increased issuance for AI, the term premium, all these factors, I think in a sense, they're all guilty. And they're all sort of pointing towards higher rates. Hence my Agatha. I'm full of stories today. I don't know why.

The one-year swap for inflation is at 2.75%. This is roughly what the market is pricing in for inflation for the next year. Breakevens, the difference between nominal and inflation protected bonds for one-year horizon are 2.7%. Meanwhile, the CPI is running at 3.7. So we're in the last 12 months, 100 basis points where the market seems to be pricing where we're going for the next 12 months. So something's not something's not working here.

There's I think the market's underestimating the inflation risk, especially the oil shock. I recognize in my historical example earlier when I said 40% oil shocks historically have led to an average of 4.9% core inflation over the next 12 months. I recognize that all of that data is when the economy was very dependent on oil from the ‘70s and if you narrow the analysis to the last couple decades, maybe you don't get the same result. But there are lagged effects. If it's diesel’s getting super expensive to move stuff around, and you move stuff around for your factory and you deliver finished goods, you're going to have pressures to increase your prices. If people are going to, there's going to be wage. People are going to ask for raises to keep up for inflation. It's going to make delivering services more expensive. There are all sorts of lagged effects that I think right now are underestimated.

If you look at the correlation on a daily basis between oil prices and the 10-year yield, if I look at the last 200 days, so this is a fairly long period of time, and I do the rolling correlation between oil and the 10-year yield, right now it's at an all-time high. And it's over 50% of every day-to-day movements.

So of all those suspects, Agatha Christie, Murder on the Orient Express, they're all guilty. They're all sort of guilty of putting upward pressure on rates.

But I think oil prices is the variable to watch day-to-day. Up until recently, because recently we had a bit of a risk-off scare and a big rotation in the stock market. And then you saw rates come back down from the 5.3 peak they reached recently. So to me, it's a bit of a tug of war between risk-off, driving people actually buying Treasuries just to get de-risked in their portfolio, and just the 10-year seemingly just otherwise day-to-day following oil prices. And oil prices have been through the roof.

Christina Noonan

So oil prices, the key piece to keep an eye on there, longer-term rates. Let's shift to shorter-term rates.

Greg, in your market, are you starting to see some more pressure on borrowers in your market?

Greg Leveto

So I think we have to think of rates from two perspectives. We have to think of it from what's the right duration risk to have in our portfolio and how sensitive do we want to be. But we also have to think of what is the impact of rates on the companies themselves. Because if you go back to what I said, which is the key is the key to credit is not losing money over the long run. Higher rates does put pressure on companies' ability to service their debt and reinvest in their business and grow. We're not really seeing a huge impact on the latter.

I mentioned before that interest coverage ratios are very healthy. They're historically high in the loan market. And in private credit, they're still in a healthy zone of well over one and a half, something to that effect. I think when you end up with rates between 4 and 5 or even in the low fives, we don't really see persistent pressure. It's really just a great opportunity for floating rate instruments to earn more money. And we're a beneficiary of that. I'm not sure that remains true if you start to see rates above 6 in the 6 plus, 6 to 6 plus range.

And some of that is just basic math. If you think about a company that's levered. Let's use very simple math for a second. A company that's levered five times at a 10% cost of debt, not adjusting for capex and reinvesting free cash flow or other cash flow, working capital moves in their business, that's a two times interest coverage ratio. But there is some capex and there are other working capital changes and businesses can be levered more than five times. And so you can start to see some pressure on those numbers if it starts to go higher. But really, we're not seeing it now. Some of that is the math I just did, but some of that is also companies do hedge. And so there's a lag to all of this.

We've also seen, look, a lot of the inflation has benefited companies, which is one of the reasons why earnings growth, you see it in the stock market, has been so strong. Some of that is the ability to push price, which is true in a lot of our borrowers. as well.

I think if I go if I answer a slightly different question, which is how are we thinking about duration, I think we generally view our job as not to call interest rates. That's to us is, you know, not why you choose Oak Hill. You choose Oak Hill to wisely select credit risk, but it is a big part of portfolio construction. And I would say generally we have been short duration, which has helped our portfolios and our clients quite a bit. And I think there is an argument that lengthening that out a little bit here because you're able to lock in yields that are pretty attractive to achieve the client outcomes we're looking for is interesting.

So we don't -- I wouldn't express that comment as a tactical view, like Sébastien said, where T. Rowe has kind of become neutral on duration. I think it's really portfolio- and client-specific for us, but we certainly understand a little bit of the attraction for inflation, or sorry, for a little bit more duration here.

Christina Noonan

Makes sense. So not a lot of impact now, but potentially more stress to come if we see higher rates.

So that brings us to portfolio positioning. We've covered quite a bit of ground today, AI, inflation, rates, credit environment. So now next natural question is, what are we doing about it?

So we have a poll for the audience to share maybe some portfolio changes, considerations that you're thinking about. And so as you answer the poll, we'll hear from Sébastien. So we've seen some meaningful shifts in market leadership this year. How is the Asset Allocation Committee navigating this environment?

Sébastien Page

Well, first of all, I saw a question come through from the audience that I thought was really good. And it was, you know, you make the argument that the S&P is now a tech index, and if you adjust for earnings growth, stocks are actually cheap. This was an extreme example, of course. But there were a couple questions.

One, do you assume that this earnings growth is sustainable? And probably not. So under the price/earnings to growth ratio, stocks are probably not as cheap as they look under that ratio.

But then there was another question that I thought was excellent, which was, you talk about when the S&P was 425 industrial stocks, Isn't the S&P right now transitioning, if you look forward, towards companies looking more like industrials because they're building stuff, they're borrowing money? So that was a really good question. And in fact, I think the market's pricing that in and maybe and more. The Russell 1000 Growth price/earnings ratio peaked not too long ago, over a year ago, at 30. And now it's at 19. So the market is digesting that transition to capital intensity.

In our positioning, we have reduced our active risk. We're reducing our duration underweight. For now, we're back to neutral. We had a small-cap overweight, but we've been taking profit. We do have a small and potentially growing tilt to large-cap growth, what I just talked about, they're actually trading at attractive valuation. I mentioned the Russell 1000 Growth price/earnings ratio is 19. Not too far from, would you believe this? It's COVID bottom. Russell 1000 Growth valuation close to the COVID bottom, way below the peak of 30, 31. So we end up being slightly risk on.

And because we're talking about AI, I want to use an anecdote in the Committee and end on this. When we decided to add to stocks a few months ago, we were close on the vote. We're looking for supermajority. I'm the cochair of the Committee. I asked everybody to give me 90 seconds for or against adding a little bit to equity overweight. And the arguments were quite close.

Some of you might have heard we now have a voice agent as a member of the Committee, an AI agent. One of the things AI does extremely well is capture consensus, consensus in language, the most likely next word, the most likely next couple words. So the agent is trained on our data, on our thinking, on our meeting minutes, and it's listening to the conversation and processing all of our arguments. I turned to our voice agent, we name her Alex for now, and I said, Alex, “Help us drive the consensus.” And the AI using voice, because it's a voice agent, just like if it were a member of the Committee, summarized the consensus of that discussion so remarkably well. We all paused and looked at each other.

And my reaction was, first of all, she's way more diplomatic than I could ever be as a human being. And also just capturing the nuances and bringing the disagreement to a consensus. This is something I think AI is remarkably powerful at. So it was an interesting moment in some of the experiments we're doing with AI in our investment process. Alex is not voting, by the way. But it definitely helped drive consensus in that moment.

Greg Leveto

Not voting yet?

Sébastien Page

I don't know. We'll see. There are too many people listening for me to announce something.

Greg Leveto

Fair enough.

Sébastien Page

Not voting.

Christina Noonan

All right. So Greg, staying on the theme of portfolio construction, you shared a lot of perspectives about private credit risks, opportunity in the space. So now for advisors or members of our audience considering private credit in their portfolios, how do you think about the role that these investments can play in a diverse--?

Greg Leveto

So I would answer the question not focused on private credit, I would focus on credit. We have a constructive view of credit. We think it makes a lot of sense in our client portfolios. The largest institutions in the world who are our clients certainly see what's happening in the equity markets, have made a lot of money in the equity markets, feel there's a lot of uncertainty, are willing to recognize when they don't know everything and look at what you can do in high-quality credit, which in liquid format, you can make 7%, 8% with a high-quality manager, without a lot of volatility. And if you take it in private format, you can deal with the liquidity, you can make 10%, and that's before adding any leverage. And it's, again, very leverageable without really changing the volatility profile up into the mid-teens.

That's a big part of what we're doing in our portfolios, both public and private. In our multi-strategy portfolios today, private credit is still consuming $0.35 to $0.50 of every dollar, in some cases even more. We do think that if you think of the market, again, I'll use the broadly syndicated loan market because it's where we have data. You've got about 15% of that market trading below 90 and about 10% trading below 80. A big portion of that, about a little less than half, is AI-affected names. And again, one thing I would encourage folks is not to just say tech names or software names, because services names and many other industries, we're all impacted.

And so when I think of just AI-impacted names, that's a decent amount, but that's not far off the historical average. I think there are opportunities down in there to take, be more opportunistic in credit, but that's adult swim. There are companies that are trading weekly for a reason, and we don't think there's a wholesale opportunity here to lean into risk.

You're not getting paid enough for it.

So there are idiosyncratic moments, not wholesale moments in the current environment we're in. So high-quality credit, pick your spots in idiosyncratic. Again, we think there's a lot of places in credit where you can be protected from inflation, a lot of real assets, infrastructure-oriented investment that's a big part of the portfolio. And we think that the yields of these portfolios we're constructing are really attractive there with pretty low volatility.

Christina Noonan

Thank you. So as we're coming up on time, I want to see if the panelists have any final thoughts they want to share with the audience, opportunities, risks. I know we've covered a lot today, but I want to give one last opportunity to share anything.

Sébastien Page

Stay invested, stay diversified, hedge inflation risk.

Christina Noonan

All right. I think that's a perfect note to end on. Thank you for that. And so this concludes the fourth quarter's Asset Allocation Viewpoints webcast, Market Crossroads. Thanks to Sébastien and Greg for sharing their insights.

Thanks again for spending part of your day with us, and we look forward to seeing you again next quarter. Thanks.

202610-5853901

Investment Risks

Active investing may have higher costs than passive investing and may underperform the broad market or passive peers with similar objectives. Each persons investing situation and circumstances differ. Investors should take all considerations into account before investing.

International investments can be riskier than U.S. investments due to the adverse effects of currency exchange rates, differences in market structure and liquidity, as well as specific country, regional, and economic developments. The risks of international investing are heightened for investments in emerging market and frontier market countries. Emerging and frontier market countries tend to have economic structures that are less diverse and mature, and political systems that are less stable, than those of developed market countries.

Commodities are subject to increased risks such as higher price volatility, geopolitical and other risks. Commodity prices can be subject to extreme volatility and significant price swings.

TIPS In periods of no or low inflation, other types of bonds, such as US Treasury Bonds, may perform better than Treasury Inflation Protected Securities (TIPS).

Technology companies: A fund that focuses its investments in specific industries or sectors is more susceptible to adverse developments affecting those industries and sectors than a more broadly diversified fund. Investing in technology stocks entails specific risks, including the potential for wide variations in performance and usually wide price swings, up and down.

The value approach to investing carries the risk that the market will not recognize a security’s intrinsic value for a long time or that a stock judged to be undervalued may actually be appropriately priced.

Small-cap stocks have generally been more volatile in price than the large-cap stocks. Because of the cyclical nature of natural resource companies, their stock prices and rates of earnings growth may follow an irregular path.

Fixed-income securities are subject to credit risk, liquidity risk, call risk, and interest-rate risk. As interest rates rise, bond prices generally fall. Short duration bonds have more risk than cash/cash equivalents such as money markets. Equities have higher risk and are subject to possible loss of principal.

Investments in high-yield bonds involve greater risk of price volatility, illiquidity, and default than higher-rated debt securities. Investments in bank loans may at times become difficult to value and highly illiquid; they are subject to credit risk such as nonpayment of principal or interest, and risks of bankruptcy and insolvency.

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Glossary of Terms

A basis point (or bps) is equal to 0.01% or 0.0001. It is used to describe changes in percentages or interest rates.

A Business Development Company (BDC) is a closed-end investment company that pools capital from investors to provide financing to middle-market private companies.

A bear is an investor who believes the price of an asset or the market will decline; a bearish market is one where prices are generally expected to fall.

A bull is an investor who believes the price of an asset or the market will increase; a bullish market is one where prices are generally expected to rise.

Capex (capital expenditure) refers to a company’s spending in long-term assets such as property, technology, or equipment.

Collateralized loan obligations (CLO) pool multiple business loans and repackage them into securities sold to investors.

Consumer Price Index (CPI) measures the monthly average change in prices paid by urban consumers for a market basket of consumer goods and services.

Duration measures how a fixed income investment reacts to a change in interest rates. It is a metric of interest rate risk.

Equity risk premium is the excess return over the risk-free rate an investor expects to receive for investing in the equities market.

Fed funds rate, or the Federal funds rate, is the interest rate at which banks and credit unions lend excess reserve balances to other banks overnight.

A hyperscaler is a company, often a technology or cloud services provider, that operates cloud infrastructure platforms.

Gross Domestic Product (GDP) is a measure of total market value of goods and services produced within a country during a set time period.

An inflation swap is a type of contract between two parties that enables one party to transfer inflation risk to the other. One party will pay fixed payments and the other will make payments based on the floating rate on an inflation index. A floating rate will change based on market conditions.

The Secured Overnight Financing Rate (SOFR) measures cost of borrowing cash overnight collateralized by Treasury securities.

Syndicated markets are a group of participants who collaborate to achieve a goal, such as providing a large loan or raising capital.

Indices:

The Russell 1000 Growth Index measures the performance of US large cap growth stocks.

The Standard & Poor’s 500® Index (S&P 500) tracks the stock performance of 500 of the largest companies listed on stock exchanges in the United States.

Metrics:

Book value of a company is assets minus liabilities.

Buffett ratio compares the total value of all publicly traded stocks in a country to the size of its economy, measured by GDP.

CAPE (cyclically adjusted price-to-earnings ratio), or the Shiller P/E, adjusts past earnings for inflation over a decade.

Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA) is a financial metric used to evaluate operating performance.

Price to free cash flow (P/FCF) ratio compares a company’s market capitalization to free cash flow (FCF), or cash after operating expenses and capital expenditures.

Price-to-Earnings (P/E) ratio measures a company's current share price relative to per-share earnings.

Price-to-Earnings to Growth (PEG) ratio adjusts a stock’s P/E ratio by its expected earnings growth rate.

Return on Equity (ROE) is a financial measurement that divides net income by shareholder equity.

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