The Exchanges

Q How would you describe the event driven investing environment when you started?

A Back then, it was a good deal easier. A lot of it was, might sound a little crass, but picking off long onlys. There were a lot of alpha donors out there, and something would get announced, whether it was a merger or a spinoff, or a company would get into trouble with some asbestos liabilities, and you just had a lot of reflexing selling. So a lot of what we did was make a quick look at what was going on, and then be liquidity providers to people who were panicking. And then you could, over the course of time, figure out what was really going to happen, but the first announcement of something really created this enormous opportunity to get involved. Now, I think partially because of the rise of passive and quant, partially because the Darwinian process has weeded out a lot of the alpha donors, it's not as simple as that anymore. You have to be much more focused on both the event dynamics, but also the fundamentals of the business. It's not like all you have to do is get the event right anymore, and now it's gotten a lot more complicated.

AI assessment note: “Back then, it was a good deal easier. A lot of it was... picking off long onlys.”

Q You've talked about the one 44 a market. What are some of the other opportunities that you're really excited about?

A I would say right now we're really excited about bank debt. I don't know that the duration of this opportunity, but it's very, very attractive right now. Essentially the bank debt market, leverage loan market, I should say, has been really dominated by the CLOs. And that algorithm right now is broken. So CLO formation is harder now than it was before. There's less demand for the triple A tranches of CLOs. So what we're seeing, paradoxically, is that actually the larger bank debt deals are harder to place, and we're getting more concessions in that market. So we've been very active on the capital market side of the bank debt market, and compared to, say, friendly merger arbitrage, it just seems like a much, much more attractive opportunity set. So we've been pretty excited. We've been dialing up our exposure there a decent amount.

AI assessment note: “I would say right now we're really excited about bank debt.”

Q How do you take that set of opportunities and turn them into your portfolio underneath that theme?

A We look at each merger on its own, but we also recognize that there's more correlation between them. Take, for example, there were two mergers. You had Horizon Therapeutics, and then you had Seattle Genetics. Totally different deals, but almost the exact same set of issues in terms of, is the FTC going to decide that There's some issue that they're going to try to tie drugs to each other and take price on that. So we have to see those as similar risks. This was true in 2009 when Pfizer was buying Wyeth and Merck was buying Shearing Plow. Both were trading at really, really attractive spreads, but you had to say, look, they're both pharma deals. If there's going to be an issue, there could be an issue with both. So there's only so much that you can do of both of them. The answer was you should have done as much as you could. Now you really have to spend a lot more time on assessing what the implied probability is. What's the real downside in the situation? And that's not necessarily where are we happy to own it? It's more of a capital markets question. Where is it going to price if the deal breaks? And that kind of capital markets analysis, something that we've been doing for a very, very long time.

AI assessment note: “We look at each merger on its own, but we also recognize that there's more correlation”

Q Why don't you take me back to how you got into investing?

A It's a pretty atypical story. I wasn't someone who grew up with the stock market around Wall Street or anything like that. I was actually practicing law, and I had developed an academic interest, I would say, in finance theory. I had read a lot of textbooks, but I started getting called by potential clients who were interested in me helping them understand some legal risk that was affecting a security that they were looking at. And what I found was, this is in the late nineties, so things have changed a little bit. The market was really, really bad at pricing legal risk. And I have to say, I didn't love being a practicing lawyer. It's not like suits. It's not like LA law, but I did find this really interesting. This work really engaging. So I said, maybe I could do this for a living. And people steered me towards distressed debt investing and merger arbitrage. And in early 99, I got a job at a fund called Scoggin and I started my career there and it was like a switch just flipped. It just changed my life. I really loved it. It was so interesting. It was just water skiing through the entire economy. It was just a lot of fun.

AI assessment note: “in early 99, I got a job at a fund called Scoggin”

Q At what point in time did you decide you felt ready that you wanted to do your own thing?

A I think Around 2012, , I began to realize that we weren't able to access a lot of opportunities because of the size of Eaton Park. We had launched at three point something billion dollars. At that point, we were running fifteen billion dollars, and we were trying to size positions based on the firm's capital. So if you're looking for a 102 hundred million dollar positions, you're really missing out on some really interesting opportunities. And I used to complain that we can't bend down to pick up five million dollars. And sometimes when you bend down to pick up five million dollars, you find 10. There's a lot of really good alpha opportunities there. So I felt that the strategies that I was running would do better in a smaller format where we could access some of the, now I think we'd call those micro cap, but the mid cap type opportunities. And so I felt that I really liked the strategy and I really liked the business model. I also thought the business model, frankly, would be easier to execute in a smaller firm. It's one thing to do that with a hundred people. It's another thing to do it with 20. So I began to think about the prospects of doing it. If you had said to me at any time in my career beforehand, I would have said, Me running a hedge fund, that's preposterous. I was a nerdy kid who liked history and law, but I found this passion, and I really wanted to do it in a fo…

AI assessment note: “I think Around 2012, , I began to realize that we weren't able to access”

Q How have you organized your team to be able to pursue these different themes and then bring it together as best idea portfolio?

A Pretty much the entire team has pretty good experience across at least credit and equities. And of the five senior members of the team, three have been involved in merger arbitrage a decent amount as well. So we have a pretty good understanding of each of the themes that we invest in. And so that really helps, that facilitates it, and Bruce Haggerty, who I've worked with since I hired him in 2006 with a brief hiatus when I left Eaton Park and he stayed, he and I have been doing this for a long time together. It's cliche, we finish each other's sentences and all that, but it really does work in terms of we're both really on top of everything that's going on, and Danny Youssef and Fennel Gadadra have both done a lot in equities and credit, so we have a pretty good Zone defense, if you will, or zone offense, if that's a term for how we look at the whole ecosystem.

AI assessment note: “we have a pretty good Zone defense, if you will, or zone offense”

Q What are some of the biggest risks you're thinking about?

A There are a lot. There are all the macroeconomic risks, and we try to not be particularly directional on that, but you have to respect that. It's one thing for the economy to slow, but when you have a real recession, everything goes wonky, and we have to constantly monitor for that. As I said, we're not a macro fund. There are loads of people who do that. It's the same thing with oil or other commodity prices. I think at this stage, you have to acknowledge that climate risk is a big part of that, and the disruptions from climate risk are real-time concern. Look at the tragic fires in Hawaii. We saw what happened in PG&E. Obviously, this has a Pretty significant impact on PNC insurers and power generation and creates potentially some opportunities on energy transition. From our own business, I would say the ones that we have to underwrite on a daily basis, a lot of it is regulatory and policy risk. When I spoke about merger arbitrage, I spoke mostly about the United States, but very few transactions are purely domestic anymore. And the role of foreign regulators in US-based situations is very dramatic. We've seen this with the CMA in the UK. Obviously, the various Chinese agencies that regulate transactions, they're a very big part of that. And obviously, China is increasingly a black box. It's very hard to do due diligence there. In fact, they've arrested people for it. So thos…

AI assessment note: “From our own business... a lot of it is regulatory and policy risk.”

Q How about the credit and distressed world? How have you evolved in how you look for opportunities there?

A We have always been very focused on the stressed and distressed credit world. I would say that we were not big players in that market over the course of most of our lifespan at Governors Lane, partially because we thought rates were just too low and spreads were too tight. We were involved periodically in some of these situations. And one of the things I think about this stress market that was pretty sobering for us was this creditor on credit violence that you're seeing now. It used to be that if you were in the same class of creditors, generally you thought that you were going to coordinate together To maximize the outcome for the credit group. That changed. I don't know whether it was because of a dearth of opportunities in distress or whether it's because the sponsors became more willing to play off one creditor against each other. In some situations such as PCG, it was just such a big opportunity and it became quite a food fight. I'm optimistic that that will get somewhat less violence if we see a real distress cycle, but the positive distress opportunities has kept us away. I think there's some amount of adverse selection In distressed until the last year or two, just because there's so much liquidity. There are very few good businesses with bad balance sheets going into bankruptcy. Now, I'll say this. There are some folks who have done a spectacular job in distressed, an…

AI assessment note: “I would say that we were not big players in that market over the course”

Q How does the underwriting process, the diligence differ in that complex regulatory environment to get to your probability assessment of these opportunities?

A It's a lot harder. It starts with, we do our own analysis of market shares. If it's a vertical merger, we try to come up with every theory of harm. We Hire lawyers, but a lot of it is the old leather shoe going to the trial, watching trials on zoom. Now, when you can do that, talking to people in the ecosystem and getting a sense of just what the regulators are saying, whether it's at public speeches and things like that. But I will say every time the FTC announces a closed meeting, we choke up because we're just worried. What is it that they're going to do now? But it's not that different than the process we've always used in regulatory complex Situations. It's just that there are so many more of them, and the things that can cause complications are just different.

AI assessment note: “It starts with, we do our own analysis of market shares.”

Q What would you like Governor's Lane to become over the next five or 10 years?

A I really want to stick to our heritage. I can see the idea of expanding our product offering. Some people want Only a merger product, or some people want only a credit product or a venture of inequities product. We think about that as something that we'd like to do, but at the end of the day, I think that what's so critical to us is our success as a firm is the culture and making sure that we're always making capital decisions that are optimal. I want to grow responsibly, recognize the fact that the graveyard Of hedge funds is filled with hedge funds that did what we did and got too big and to grow with discipline in a way that allows us to continue to maintain the culture that has contributed to our success. I think we've got some room to run, but if I could be doing what I'm doing now, just better in five years from now, that's success. 10 years from now, that's success.

AI assessment note: “if I could be doing what I'm doing now, just better in five years”

Q How did you think about the team and the culture that you wanted to have?

A I wanted really good athletes who potentially could invest across all strategies. There's a lot of similarities between them. I would say the one that is a little bit different is the merger arbitrage part of the strategy because the work cadence there is very different than the other two strategies. A typical equities investor, a typical credit investor can look at his or her calendar on a Sunday night and have a pretty good idea of what they're doing for the rest of the week. Who's reporting that week? What are the conferences and things like that? A merger arbitrage investor is praying on Sunday that he's going to find out there's a lot of stuff to do on Monday. From a operational perspective, I always thought it's really important to have a dedicated merger arbitrage person, but what I really wanted were people that could understand event-driven dynamics across asset classes, people who can understand the role of balance sheet, who can understand the role of the fundamentals, that fundamentals really matter, and I think we've learned a lot more about that in the last few years. One of the things I've always looked for is people who have restructuring experience, because I think restructuring experience is really where you get the combination of Equity underwriting and understanding the role of legal processes and group dynamics in terms of resolving complex situations.

AI assessment note: “I wanted really good athletes who potentially could invest across all strategies.”

Q And how did you trade that position along the way?

A This was all going on with an extremely volatile market. There was implied beta, as there should be, in Activision, because it was probabilistically going to be worth X when Microsoft bought it, or it could be just a stock. And we did a bunch of option trades to manage our risk. I'm not going to say we got every zig and zag right. We didn't. We never do. The great thing about this business, and the hardest thing about this business, is a lot of folks who are in our industry, there are people who got nineties and plus on every single one of their tests. And in investing, fifties, 55, 60 is pretty good. Now in arbitrage, that's not true. You have to be in the nineties on arbitrage, but still this was a situation where we realized it was an extremely high beta situation. And I think overall we did fine, but we probably reduced too much when the CMA said they were going to block the deal. Every indication was that that appellate process was not a real appellate process and the transaction seemed dead, but then we got re-engaged when it looked more likely to happen.

AI assessment note: “we probably reduced too much when the CMA said they were going to block”