Is This The Start Of A Financial Crisis? | Jeff Snider

**Jeff Snider** (0:02)
Shadow banking and private credit, it went nuclear essentially in 21 and 22 Everyone in the space convinced themselves they could generate high levels of return that were essentially risk free, which whenever you hear that, alarm bells should be ringing because there's no such thing in finance.

**Danny Knowles** (0:18)
How big and systemic can this become?

**Jeff Snider** (0:20)
Bubbles tend to take the same forms each and every time. They're given a different coat of paint, a different facade. Nothing bad has happened, therefore nothing bad can happen, which means I take even more stupid risks. And it just gets bigger and bigger and bigger to the point that the imbalance is inevitably going to reverse. And then the question is what it means on the other side. That's the danger when it gets to force selling becomes distress selling becomes fire selling. Everything just amplifies as the dominoes fall one after another, after another.

**Danny Knowles** (0:48)
How do people position themselves? What should you be looking at as a way of surviving this?

**Jeff Snider** (0:53)
I would buy a ton of-

**Danny Knowles** (0:57)
Jeff Snider, welcome back to the show, sir.

**Jeff Snider** (1:00)
Thanks, Danny. Good to see you again. It's been a while.

**Danny Knowles** (1:03)
It has been a while. I always like talking to you because, I mean, I think you probably have one of the best views into how the actual sort of financial system works in the plumbing. And you've been saying some scary stuff recently. You've been saying that you think we're in a financial crisis. So do you think we are?

**Jeff Snider** (1:20)
I think I've been more measured. There are a lot of people who say, hey, we've heard from Jamie Dimon and Muhammad Al-Aryan and others who say, hey, I see a lot of 2008 similarities. And you're going to see what they're saying. The pattern is the same because the pattern is human behavior, not necessarily the actual format. But I don't know. In financial crisis, it's too early to call. We're dealing with different animals than what we did back in 2008 However, there is a lot of evidence that suggests that the big portion of the credit market did entertain a bubble and wasn't a bubble for quite some time. And that the bubble has shifted. Whether or not it's a complete and utter bust and it leads to a financial crisis is a matter that hasn't been settled just yet. But there are a number of telltale signs that suggest that is a far greater possibility that maybe most people should be comfortable with. And that seems to be the market position. That seems to be, you know, everything like you keep getting developments across the system that suggest there's a lot of trouble brewing there. But it's still an open question about what it actually all means and where it all boiled down to.

**Danny Knowles** (2:27)
But what is it that you're specifically seeing that makes you think potentially we could be? Like you say, is it in private credit and what does that actually look like? What are you seeing?

**Jeff Snider** (2:37)
Yes, shadow banking and private credit. People who may not be familiar with the terms. Shadow banks are simply, they're like banks, but they're not registered in regulated banks. Essentially, investment funds. After the 2008 crisis when the regulated banking system was essentially broken for good, more and more throughout the 2010s, these non-bank shadow banks began to step in and fill that void because there was a need to redistribute credit to especially smaller and middle-sized businesses, the more riskier borrowers that the regulated banks were just staying away from because their balance sheets were impaired. And so you had these clean balance sheets among shadow banks who could go into some of these riskier areas and essentially re-lend. They were getting their funding from the banks who were, they looked at these shadow banks as less risky than lending directly. So they get funding from the banks and just re-lend into these other parts of the economy that were started for credit.
That went, it went nuclear essentially in 21 and 22 The aftermath of the pandemic, the shadow banking just went absolutely crazy for a bunch of reasons. Largely because everybody thought initially anyway, it was going to lead to a permanent plateau of prosperity. So why not take a bunch of risk? Because it was going to lead to nothing, nothing but positive results going forward. So everyone in the space convinced themselves they could generate high levels of return that were essentially risk-free.
Which whenever you hear that, alarm bells should be ringing because there's no such thing in finance. There's no such thing as high rates of return with low risk. It's high rates of return with what are perceived to be low risk until they're not actually low risk. So you had a hyper extension of private credit, essentially, shadow banking, whatever you want to call it. The Fed calls it non-depository financial institutions. But you had these investment funds that were out there raising tons of money and relending it to the real economy. Believing that there was no down side to doing so, which is the fatal conceit in every debt-fueled bubble that we've ever seen in human history. So lots of money went into the space, a lot of it under really bad assumptions, which is all the ingredients, which are all the ingredients for a credit market bubble. Then last year, we started to see signs that for the first time, people were questioning all the assumptions that fed that bubble, mainly about the real economy, mainly about the situation in the labor market. You know, maybe Jay Powell wasn't correct. The economy wasn't booming in solid all this entire time. And that there was more risk in some of these riskier parts of the credit market than people had been anticipating. And then it got even worse than that, because while those are natural questions to begin asking, we started to see these irregularities. First with Tri-Color and then First Brands, and then Renovo and a bunch of them last fall. Then there was one just yesterday in the UK, what Jamie Dimon artfully called cockroaches. And the importance of the cockroaches were not just that there's a bunch of bubble behavior, overextended, over-leveraged risk taking in the private credit space, but there was basically no controls over it. We expect that the big banks who have been burned in the 2008 crisis and repeatedly along the way, would at the very least have done a little bit of due diligence and underwriting in extending credit to these shadow banks before they extend credit to the rest of the borrowing public. What we found out in these cockroaches is that nobody cared to do even the most minimum underwriting or due diligence. That's what these cockroaches uncovered was, stunning levels of fraud and just basic fraud. Like, for example, a bank would lend funds to a, like, tricolor or first brands, expecting that they were basically safe in doing so because tricolor or first brands are now MFs, issued collateral against those loans. So you think, okay, worst case scenario, this little firm, this shadow bank blows up, but I've got collateral that I can depend upon, I'm protected. But nobody ever checked the collateral. Was it real? Was it what they thought it was? And so in case after case after case, what became clear is that the collateral was either fraudulent, double-posted. And what we're really suggesting, what it really pointed to is that nobody did any homework. The bubble behavior that went on for years was a lot worse than we thought it was. And so the importance of the cockroaches is that one after another after another, it showed nobody has any idea of what this what these credits actually look like, whether it's the actual credit providers or shadow bankers themselves, those who were providing the leverage and the funding through the banking sector, or even the hedge fund investors or the institutional investors who seeded these shadow banks to begin with. Nobody did any of the basic standards of due diligence and underwriting. They just lent because everything seemed to be just fine. And if everything seems to be just fine, then it's easy to buy into that fairy tale fantasy of high returns with no risk.