Distressed Debt Disappears and That Makes Greylock Nervous


From Bloomberg

Investors who’ve ridden a monster rally in the riskiest corporate bonds over the past year are now left with slim pickings.

The number of emerging-market securities paying yields more than 10 percentage points above Treasuries is the lowest in a decade as surging demand pushes up prices, according to data compiled by Bloomberg and JPMorgan Chase & Co. Just last year, the average payout on company debt from Brazil, Ukraine and Iraq all reached so-called distressed levels. But rallies in the three countries have now pushed yields well below that threshold.

On one hand, the scarcity of distressed credits is reflective of the huge gains in the riskiest bonds over the past year — JPMorgan says emerging-market securities with the lowest credit scores returned an average of 26 percent, seven times as much as investment-grade notes. But the phenomenon also raises red flags for investors who say it shows complacency among bond buyers taking on enormous risks because they’re desperate for high yields.

 “There is too much money coming to emerging markets, so leverage is increasing and investors are piling on certain trades of dubious quality,” said Diego Ferro, the co-chief investment officer at Greylock Capital Management, which specializes in undervalued, distressed and high-yield assets. “Not all of them are poor quality, but almost all of them are well bid.”Only 26 emerging-market corporate issuers have an average yield of 10 percent or higher versus 60 issuers a year ago, Bloomberg data show. The average yield on junk-rated corporate debt from developing-nation issuers has fallen almost a full percentage point from mid-November to about 6.43 percent, according to JPMorgan data.

To be sure, some of the reduction in the availability of distressed credits is due to reduced political risk in countries such as Brazil, Russia and Ukraine, as well as a slew of defaults in 2016 that took out some of the highest-yielding bonds. And companies such as PT Indika Energy, Vedanta Ltd. and Digicel Group Ltd. left the distressed camp after refinancing shorter-term maturities to shore up their finances.

But for investors dedicated to the highest-yielding debt, fewer options means there’s growing risk they’ll snatch up credits with less upside than a year ago.

“There are very few names that pay double-digit yields anymore,” Steve Drew, the head of emerging-market credit at Janus Henderson, which oversees $331 billion in assets, said from London. “We have a scarcity of assets that will pay you what is needed to match the liabilities that are out there.”

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