This live episode of Animal Spirits features hosts Michael Batnick and Ben Carlson speaking with Alex Morris, a Renaissance man from FM Investments, at their Georgetown office in Washington, D.C. Morris oversees the firm's $20 billion in assets across fixed income SMAs and innovative ETFs, including their flagship T-Bill fund.

The conversation covers the evolution of fixed income investing, particularly how the 2022 bond bear market awakened investors to the need for diversified bond strategies beyond traditional approaches. They explore FM's tax-advantaged Compounder series, which provides total return exposure without dividend distributions.

Morris discusses the rise of BDCs and private credit, the mechanics of Treasury auctions and potential failure scenarios, and the growing demand for tax alpha strategies. The discussion also touches on market concentration, with recent all-time highs driven by few stocks, and the structural changes in bond markets since the financial crisis.

T-Bill ETF Success and Bond Market Evolution

FM's T-Bill ETF (TBIL) launched in August 2022 and has grown to almost $7 billion, becoming their largest fund despite expectations that their 10-year Treasury ETF would dominate.

"Most bond funds suffer from being often very expensive and actively managed" when investors want pure exposure to specific factors - Alex

The bond market's size and complexity creates challenges: Ford Motor Company has one stock (F) but 3,500 fixed income instruments, while the municipal market has 6 million issuances.

Bond indices like the Bloomberg Aggregate are "so big, it's uninvestable" with 47,000 holdings, leading Bloomberg to create an "Investable AG" version with 20,000 holdings that's still largely uninvestable.

Tax Alpha Revolution in Fixed Income

The Compounder series provides tax-deferred returns by rotating out of funds before dividend declarations, capturing daily NAV appreciation without triggering taxable distributions.

"We'll sell it and we'll buy something that's pretty similar to it, or two or three things that on average look a lot like AGG" - Alex on the rotation strategy that involves about 20 trades per year.

Cost basis legislation from eight years ago made tax-loss harvesting significantly easier by requiring custodians to track basis information automatically.

BlackRock reported nine consecutive quarters of inflows into Aperio totaling $13 billion, with plans to double or triple the platform as demand for tax alpha grows.

BDCs and Private Credit Market Dynamics

"The money came in so fast, they couldn't spend it" - Alex on how rapid inflows into BDCs created challenges in finding quality borrowers after 2022's bond market decline.

BDCs offer liquidity advantages over private credit funds but face daily mark-to-market pricing that can create volatility when public markets disagree with manager valuations.

"The bond market is strange in that the more debt you take out, the more debt you can" - Alex explaining how successful debt issuance leads to easier access to future capital.

Market makers provide liquidity for publicly traded BDCs, but pricing depends on third-party valuation agents and independent boards that may challenge manager marks.

Treasury Market Risks and Fed Policy

A legitimate Treasury auction failure would occur when the government cannot fill $30 billion of demand at any reasonable price, potentially causing spreads to widen by tens of basis points.

"There's what, $28 trillion of cash sitting on the sidelines" providing seemingly insatiable demand for U.S. government securities despite high debt levels.

Yield curve control like Japan's approach could address auction failures but carries significant risks including equity market stagnation and currency volatility.

Individual taxpayers receive preference over institutions in Treasury auctions through TreasuryDirect.com, getting their bids filled first.

Market Concentration and Credit Cycle Outlook

Only 5% of individual stocks hit all-time highs the day the market did, representing the third-lowest participation rate ever recorded and highlighting extreme concentration.

"There hasn't been a market-wide credit cycle" since the Great Financial Crisis, with only pockets like 2015 energy experiencing significant stress.

Post-GFC regulation, smarter lending practices, and wealth creation from strong stock and housing markets have prevented broad credit cycles from developing.

"We do face a sort of crisis of labor coming in the future" - Alex identifying demographics rather than credit as the likely catalyst for the next major economic disruption.