Fund managers cautious on distressed investing

Date: Wednesday, January 21, 2009
Author: Emily Chasan, Reuters.com

Despite a plethora of new opportunities for distressed investing, hedge fund managers have grown more cautious about investing in financially troubled companies this year, according to a survey released on Tuesday.

Hedge fund managers are reporting a drop in distressed debt and equity investments in the past 12 months, reflecting a wave of caution about the economy, the survey from Thomson Reuters HedgeWorld and law firm Dykema showed.

In the poll of 155 fund managers, 36 percent said they have invested in distressed debt in the past 12 months, down from 48 percent that did so in 2007.

Distressed equity investments also slowed slightly, as only 41 percent of the funds polled said they made an equity investment in financially troubled companies, down from 43 percent that did so in 2007.

"Distressed investing is increasingly being done by real specialists and people who are not specialists are staying away from it," said Rick Bendix, co-head of the Bankruptcy and Restructuring practice at Dykema.

"Given the economy, you would think that people would perceive there would be greater risk in the next 12 months," Bendix said.

Three-quarters of those polled said they were concerned about insolvency issues affecting assets in their portfolios, up from 60 percent that said so in 2007.

The long-term nature of distressed investments also ties up investment capital, so some funds faced with client redemption requests may not have the luxury of making those loans, Bendix said.

Fifty-three percent of the hedge fund managers polled said they had placed a portion of their portfolios in distressed investments, but just about 10 percent said they had more than 20 percent of their portfolio invested in troubled companies.

LOAN TO OWN

But those hedge fund managers that say they are lending to troubled companies are largely planning to do so through strategies that would put them in control of a company when it files for bankruptcy.

Hedge fund managers said they were most interested in using secured loans as a vehicle for distressed investments. Secured loans can often give funds an opportunity to obtain a large stake in the company if they swap debt for equity in a bankruptcy or debt restructuring.

About 44 percent of the hedge fund managers who said they planned to lend money to a financially troubled company in 2009 intend to use loans to acquire control of a company if it files for bankruptcy, the survey showed.

"People perceive a loan-to-own strategy as a way of acquiring companies a lot cheaper than they could acquire it by actually having to go out and buy the stock," Bendix said.

About 18 percent of the hedge funds polled said they had created new investment vehicles to focus on distressed companies in the past 12 months.

The fund managers ranked the banking and energy industries as the two most attractive distressed debt investment areas for 2009. (Reporting by Emily Chasan, editing by Matthew Lewis)