AltmanÆs vintage year for distressed is slightly corked

The quivering heaps of toxic debt are being alleviated by government stimulus and unprecedented liquidity.

It's a case of reverse schadenfreude as distressed managers feel cheated by the financial market recovery and the liquidity boom sours their well. While most hedge funds and asset management firms are quietly or massively bullish, the distressed-investing community is crying out for a prolongation of distressed-asset opportunities, to allow them to put newly raised funds to work.

In a keynote speech yesterday by Professor Ed Altman at the second AsianInvestor/FinanceAsia Distressed and Troubled Asset Investing Summit, he conducted a vox-pop poll that revealed only one person who believed in a V-shaped recovery in a room of hundreds of pessimists.

A spread of 2,046 basis points between high-yield bonds and US Treasuries in December 2008 fell to 646bp by the end of October, as systemic fears receded.

"It was a heaven-or-hell scenario -- the instruments were either going into default or were going back to par," said Altman at the Tokyo event. "The turnaround began in March 2009 and hasn't hesitated since. There have been unprecedented levels of liquidity pumped in."

He attributes the recovery not only to the stimuli and the US Federal Reserve's purchase of toxic assets, but chiefly to the rebound in global stock markets. Altman had earlier targeted a default rate of 13% in high-yield bonds, but thinks now that the prevailing high-water mark of 10.4% will be as good as it gets. However, he notes that with the exception of 2008 (including the Lehman bankruptcy), 2009 has offered the best crop of defaults size-wise, with $500 billion of liabilities passing through Chapter 11.

Altman now has reset the modelled likely default level to between 6.7% and 9.6%, depending on whether distressed-investor prayers are answered and we do or do not re-enter recession.

"The best of the cycle is over, but distressed firms can still accomplish a 15% return," he added, noting that in 2009, the bog-standard distressed fund is up 25%, but would have been up 40% if it had concentrated on bonds and loans.

"Advocating the car makers' bankruptcies, I just about got booed out of Congress when I testified," said Altman, "and yet the actual event of their bankruptcy saw markets rally because a point of final certainty had been reached."

Altman popped a customary bottle of champagne to commemorate the bankruptcy of US commercial lender CIT earlier this month. He and his better half customarily drink a bottle of good liquor to usher in the news of a big corporate downfall.

However, the celebration was somewhat muted, since the 70-cent recovery rate of CIT for the distressed-exchange deal was in heady excess of the 25- to 26-cent recovery being witnessed elsewhere on average this year.

There have been 39 distressed exchanges this year, compared to 14 in 2008. However, Altman said only 20% of such firms are still operating past a three-year time horizon, with the rest either bought out or disappeared. So his advice on whether to hold or sell if you are a recipient under a distressed exchange is: "Take the money and run."

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