Jim Zelter Talks AI Capex, ‘Higher for a While’ Rates

0:00For Begrim, one of Thailand's oldest established companies, growth does not begin with a deal. It begins with trust. Later in this podcast, here how that approach has taken the company from Thailand to South Korea and the United States. Bloomberg Audio Studios. Podcasts, radio, news. Investment firms increasingly back in the technology, including the infrastructure needed to fuel the boom Apollo Global Management President Jim Zau to say in the company's most recent earnings call, quote, the sheer size of the AI infrastructure buildout is unprecedented. We see an enormous opportunity for private capital to finance a portion of this along with public capital. Jim joins us now for more. Jim, welcome. It's good to see you. No days off for Apollo. What an August you just had. It was, we didn't have an August break. It was pretty much a pedal to the metal, a bunch of announcements, a bunch of travel, and a bunch of financing. So the firm did an amazing job. Walked in with the Yankees camp as well.

1:00Distributed some merch. Bram, how do you feel about that? I'm going to put that on. Well, I'm going to just amend an embroider a couple of lines around the Y and I think it'll be fine. Can we pair the two stories? The boom in Apollo sports capital with what's happening in AI. Is that one of the reasons why sport has become such a big focus for investment firms? Well, I do think, you know, there's been a few themes as I've been on this show for the last couple of years. And there's no doubt there's a broader theme with society as you, as the AI technology plays a larger and larger role. You know, what are industries? What are activities? What are businesses that will have a very low chance of obsolescence? And I think it's as simple as that. I mean, the last, you know, 50, 100 years, there's been more and more leisure time, leisure time activities, whether it's the whole travel, entertainment business, and other activities like that. And I think people see the purview of sports, especially mainstream sports,

2:02and the aggregate followership, if you look at the top 100 shows in a year, you know, 95, 97 or sporting events, and that's probably unlikely, and you get disrupted. So I think this was a thematic view that we had over the last three or four years about pushing, putting our firm in the, in the limelight of those activities. You know, the other thing I would say is we've been much more of a, within the arena of sports and entertainment, we've been much more of a debt financing partner. Certainly there's transactions where there's equity along as well. I think a lot of folks have put their stake into the equity side of the business, but we've done the equity as well as the debt financing and the cap exxion. Why is the debt slightly more interesting to you? Well, when you think about, you know, a franchise like the Yankees, there has not been historically a variety of financing alternatives of companies of that, of teams, and the loan to value is exceptionally low that you can make a loan ad

3:03versus other comparative industries. You're loaning $10, $15, $20 on the dollar value versus other industries, $50, $60, $70. So you have a great margin of safety, of protection on, you know, what we would say is world class unique assets that we wanna be associated with for decades. How much is that applicable to the broader investment universe? This has been a debate on Wall Street for the better part of 18 months now. Would you rather be on the debt side of the industrial build out or the equity side to participate in the upside of what could potentially come? Well, it depends on your capital you have. I mean, as I've spoken on the show many times, you know, half of our capital comes from regulated balance sheets. And on those regulated balance sheets, our objective is to make plus or minus 7% depending on the rate environment. And so when you see the short end right now in three and five years where they are and they're yields right now, I'm focusing, we are focused on high quality spread

4:04in that short duration. So you don't have to take that equity risk. There's no doubt that what we bring, and you know, you had the quote of as the show started, the message that we've been saying is these, the scale of this CapEx cycle is unprecedented. It's going to take any and all precincts, equity, public equity, private equity, private capital, investment grade debt, and everything else in between. And so for us, you know, for our regulated balance sheets, we're really a debt financing provider. And hence the intel financing, the broad-com financing, the Nvidia financing. On the other side of our business, transactions like what we announced for the Yankees, we announced a very interesting transaction for Atlantic Aviation, which is arguably another business that I don't think is going to get disrupted. This is an airport fixed-based operator of private aviation. Those are businesses that we think have, you know, amazing resilience. And so that's how we're trying to make sure

5:04that we are thoughtful on the debt side and on the equity side being very, very thoughtful about disruption. You know, I'm often fond of saying, we don't want to provide, take, equity risk for a fixed coupon. And I think when you think about what's going on right now in a lot of the build-out across the whole spectrum from the loudest language models to the racks and the chips, it's interesting to see today the gross margin is highest away from the models. And so companies like broad-com and money others are doing very, very well, notwithstanding who's the winner of the LLM race. So in other words, if there's a huge debt issue in slate from the LexiVopenAI and Anthropic, wouldn't be as interested. No, I think there's opportunities. I mean, the big challenge and another thing that we've talked about is the scale of this. If you look at the largest company in the planet and video, their four or five top 10 investors

6:05have upwards of anywhere from 2, 3% of the equity to almost 9% of the equity. That's a $500 billion exposure. The biggest companies in the globe are not going to have people provide that scale of debt. So it's a scale and capacity issue. And so there's certainly financing opportunities for OpenAI and Anthropic that we want to certainly be front and center in. And we have been. And we will continue to do so. But it's all about sizing and diversification. And that's the difference between funding debt and equity in this industry today. The equity you have massive convexity, you don't mind getting very, very concentrated. Because the nature of debt and just getting paid back power, it's much more of a diversification game. Do you sense the investors are becoming more discerning about the available opportunities? We've talked about in a few times attempting to anchor borrowing costs for the ecosystem. You wouldn't think they'd have to do that. The demand was there for the amount of debt that needs to be raised. What do you think is happening there?

7:05Well, I think that's a complex question. I think there's a lot of reasons why the reality is the IG market has seen a tremendous amount of issuance this year, the public investment grade market. But now you're seeing the broad ecosystem of AI. People are predicting that that system will be 10% of the IG market. So I think those companies wisely are saying we have to count on a variety of precincts to raise this capital. And whether it was what Alphabet did earlier this year with the debt in the mandatory, you need to hit a variety of sectors. So there's no one asset class that's large enough to fulfill the aspirations of all these companies. They're going to need any and all. And I call it all, calling all precincts. Yeah, they're tapping equity. They're tapping debt. They're tapping different currencies. We can see it from Amazon, from Alphabet. That competition for capital, the crowding out forces that we've been talking about all year. Who's the victim? Who's getting left behind?

8:06Well, I think this is certainly, we had the private capital and the private equity industry was one where for 20 years it was about asset light, go back to software, distribution, businesses. And now we have transcended it into an asset heavy industry. So there's no doubt we are in a winner take most environment in a lot of businesses. And there's no doubt what you've just pulled the threat at is having access to capital is a competitive advantage. And whether you're seeing it in the industry that I happen to operate in day and day out or the industry that we're focusing on, there's the winners and the haves and the have-nots. And having access to capital in scale is certainly a competitive advantage. It's one thing for an AI company with the prospect of 30% growth to borrow at a 6% and 7% rate. It's another thing for a mom and pop company that's been grappling with supply shock after supply shock.

9:06How feasible is it for corporate America at large to handle almost 6% average yields on investment grade index going forward especially with the refinancing's coming to the fore? No doubt if you also look where mortgage rates are right now that's having an impact. If I was here, I did look up. I've been here 15 times since last January. Thank you very much. I'm not saying that. And because I wanted to talk about how many times I've talked about higher for longer. And if I was sitting here six months ago and the short end and the long end in rates and oil would've been at these levels, I think we all would've been surprised at the level of the equity market. This economy and market have been resilient. And I suspect that when you think about where we are on the rate curve right now, it is a combination of some inflation issues, some fiscal concerns, as well as a massive amount of supply hitting the market. And it's a combination of all three of those. But you're asking the good question about, at what point does the economy say no, Moss?

10:08And the actual rate of cost of capital is going to slow down things. We're not seeing it right now. Now we're right in the middle of this massive cat-x cycle. You do worry about the breadth of that cat-x cycle being narrowed a little bit because of the financing cost. But it's certainly a macro concern that investors have to think about. We've still got Jim Zelta of a polar global management with us around the table. Jim, you were thinking back to the last 15 conversations in the last one year plus. I'm thinking about going back a few years with you. When interest rates were climbing and you were talking about an economy that could withstand this, what difference does 25 basis points make? What difference does five on 10s make to this economy? You know, I think that the real conversation is the conversation that Torsten's been having for a long time. It's the higher for longer rather than the number of rate hikes going forward in the next six to nine months, which I know there's a very, very high percentage of. So I think it shows you the depth and breadth of this economic economy,

11:09the strength of the consumer overall. And I've talked a little bit also about the lack of transmission mechanism that raising rates has on slowing down the economy. We've seen it. It's had very little impact. What changed Jim? Just to go back over that. What changed? Well, I think the economy and the breadth of the economy and how the structure of the banking system works today, it's very different than it was 20 years ago. And I don't think many people spend a lot of time thinking about that. There's no doubt that the, with the rates higher in the US than the rest of the world right now, but we are the beacon of economic activity. It just shows you that, you know, the underlying economic strength and growth of the cycle is very, very strong. I do worry about where mortgage rates are right now. I think that's going to have a greater impact than what the 7% right now, which is not great for overall strength. It's certainly not great for the administration in terms of the midterms. But as I said during the break, you know, we're not in Kansas anymore. Rates are going to be higher for a while.

12:10And whether that's one rate, high today, which I suspect the Fed will do, or a handful of the next six or 12 months, we're in a higher rate environment. And I don't see it going back anytime soon. We've been in a bond-bearing market for about five years now. And rates potentially could go higher from here as a number of investors have said if they come on. Is it a good time to be a bond investor? Well, again, I go back to the mandate you have in front of me. If you are, I'm not a, we're not macro investors. And we, when we think about our business today, you know, 80% of our assets are credit and credit-like with a massive amount of investment grade exposure, with a regulated balance sheet slash insurance company liability. If you're in that world, the world we are in right now, and base rates are between four and a half and five percent, it's an amazing time to be a credit investor. I mean, is a credit investor? You want to see a strong economy, check. You want to see economic activity, strong check.

13:11You want to see an environment where M&A and the equity markets are strong and positive and broad check. So for us, this is an amazing time to be in our business. And as I mentioned to you before that last sector, between Atlantic aviation, the Yankees, and Vidya, and all the other activities, we have been bustling at Apollo. How much could the Fed hike rates, and do you see any chance they would cut them back, or is this really the new normal? Well, I think whenever anybody in the seed starts to extrapolate for years and years, that's a mistake. And again, it's humbling to see a year or so ago, the market was pricing in three or four cuts, and we see how wrong that is. So I think that when I go out and just operate day-to-day, as you all do, very few things are cheaper, are cost less than they did a year, one year, three year, five years ago. And that's around the globe, everywhere you travel, in the G7 economies. So I think this, I think Torsen has been spot on

14:13about a higher rate backdrop, and whether that's between a 10 year, between four and a quarter and five and a half, I think that's as if code we're gonna be in for quite some time. Jim, it's gonna see a lot of us. Thank you, sir. Jim's out to that of Apollo Global Management. If you listen to financial news, you know a lot of time has spent thinking about what's next. The next opportunity, the next investment, the next move. But sometimes what matters most is being ready for what you never saw coming. For more than 75 years, Cincinnati Insurance has worked with independent agents to help protect businesses, homes, valuables, and more. Because planning for the future isn't only about knowing what's next. It's about making sure you're ready for what you can't predict. Let Cincinnati Insurance make your bad day better. Find an independent agent at cianfian.com.