Talk Your Book: Animal Spirits Live with F/m Investments

Episode Summary

Executive Summary: A live Animal Spirits episode from Washington, D.C. centered on fixed income innovation, especially tax-aware bond investing. Alex Morris of FM Investments explained why bonds need more nuanced diversification, how ETF structure can create tax alpha, why certain products like T-bill ETFs gained traction, and where investors should be cautious about overly clever tax or income strategies. The conversation also covered BDCs, private credit, mortgage rates, bond market signals, and broader market concentration.

Main Topics: Tax alpha in fixed income (Priority: 5/5): The guests argued that investors are increasingly focused on after-tax returns, and that fixed income is a fertile area for tax-aware strategies such as avoiding taxable distributions and managing reinvestment timing. ETF product design and the rise of T-bill funds (Priority: 5/5): FM Investments discussed how the T-bill ETF became a major success, why the timing and simplicity resonated, and how the firm thinks about launching products only when they solve a real problem. Bond market structure, benchmarks, and diversification (Priority: 5/5): They explained that bond benchmarks can be misleading because they are huge, cap-weighted, and often uninvestable, so investors need cleaner exposure to specific risks like duration, credit, or inflation. Private credit, BDCs, and liquidity mismatch (Priority: 4/5): The conversation examined why BDCs and private credit have grown, how public wrappers create liquidity but also mark-to-market volatility, and why illiquid assets in liquid vehicles can create problems. Interest rates, mortgages, and Fed policy (Priority: 4/5): They debated why the Fed doesn’t directly target mortgage rates, why interventions have second-order consequences, and how rate moves affect different parts of the curve and housing finance. Market concentration and macro uncertainty (Priority: 3/5): The hosts noted that broad markets are at highs even though only a small share of stocks are hitting new highs, while also discussing debt, bond vigilantes, and whether AI will help offset labor shortages.

Key Arguments: Fixed income investors should think in terms of specific exposures, because many bond funds deliver something different from what investors think they are buying. Tax alpha is increasingly important because investors can often improve after-tax outcomes more reliably than trying to beat the market. ETF structure can be used to defer or reduce taxable distributions through ordinary portfolio trades without resorting to exotic engineering. The bond market is huge and heterogeneous, so broad benchmarks like the Agg are too broad and often uninvestable as true portfolio targets. T-bill ETFs succeeded because they offered simple, transparent yield exposure at exactly the promised result, which resonated in a cash-yield environment. BDCs and private credit are expanding because banks have retreated from lending, but liquidity and valuation risk are real concerns in public wrappers. Many new tax-saving or income products are potentially too clever; if a strategy is hard to explain in a sentence or two, investors should be skeptical. Market structure improvements, market makers, and ETF pricing can help during dislocations, but they do not eliminate the risks of illiquid underlying assets. Mortgage rates are hard to directly manipulate without creating distortions and refinance waves, so policy makers usually prefer indirect tools like broader rate moves or tax incentives. The next major credit cycle may be less about credit excess itself and more about labor shortages and AI-driven productivity changes. Data Points: FM Investments assets under management: about $20 billion - Alex Morris described the firm as a boutique managing about $20B. T-bill ETF assets: almost $7 billion - The T-bill ETF was described as having nearly $7B in assets. T-bill launch date: August 11, 2022 - Alex said the fund launched on August 11th in 2022. Best inflows month: best month ever last month - FM said T-bill recently had its best inflows month of all time. Bond benchmark scale: about 47,000 holdings - They referenced Bloomberg’s aggregate bond index as effectively uninvestable due to its size. Investable Agg scale: about 20,000 holdings - The investable version of the Agg was also described as largely uninvestable. Munis outstanding: 6 million issuances - Used to illustrate the size and fragmentation of the municipal bond market. Ford fixed income instruments: 3,500+ instruments - Example of how a single issuer can have thousands of bond-line exposures. Compounder trading frequency: about 20 trades a year - Alex said the tax-aware compounder strategy is not high-turnover, despite rotating around dividend dates. BlackRock Apperio inflows: $13 billion over 9 consecutive quarters - Mentioned as evidence of rising demand for tax-aware direct indexing/after-tax strategies. Core S&P-style concentration metric: 5% of stocks hit all-time highs on the day the market did - Ben cited this as evidence that index-level highs are being driven by a narrow group of stocks. U.S. cash on sidelines: $28 trillion - Used to explain why bond vigilante/fiscal stress pressures have been absorbed by demand for Treasuries.

Pivotal Quotes: "Most folks are disappointed with bonds, not because the bonds didn't work, but because the person that was managing the bonds was doing something different than what they thought they were doing." — Alex Morris: Explaining why investors need clearer, more intentional fixed-income exposures. "If they have to explain to you how it works and it takes more than a few sentences, you really need to leave it to someone else to do." — Alex Morris: Warning listeners about overly complex tax strategies and product gimmicks. "We've got, you know, we don't have enough people for jobs we need. We're hoping that AI will come and increase productivity that will kind of keep this train rolling along." — Alex Morris: Discussing the next potential macro stress point beyond traditional credit cycles.

Implications: Investors should prioritize clarity, after-tax returns, and liquidity awareness over flashy product design. The fixed-income world is getting more specialized, and the biggest risks may come from complexity, not bonds themselves.