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Distressed Debt Is Dead; Long Live ‘Opportunistic Credit’

A number of fund managers have recently re-branded their distressed funds as “opportunistic real estate” investments.

(Bloomberg)—Distressed debt funds are out of favor in a world where central banks have all but eliminated distress, at least for now. So what is a distressed fund manager to do? Rebrand.

Oaktree Capital Management Tuesday unveiled a $16 billion credit fund, a record size for the distressed-debt firm, dedicated to “global opportunities.” Starwood last month closed a record $10 billion distressed fund that seeks “opportunistic real estate” investments. Blackstone Inc., the biggest alternative investor, downplayed the scale of potential distressed investing in its third-quarter 2020 earnings.

“We’re going to try to make people 15%,” Oaktree co-founder Howard Marks said of the new fund on Wednesday during a talk held by the Fixed Income Analysts Society.

The spin toward opportunity -- “special situations” is also in the mix -- is an attempt at an asset-class makeover. It’s become increasingly more difficult to find classic distressed-debt situations when the Federal Reserve has flooded the financial system with liquidity to avoid another prolonged financial crisis during the pandemic.

For a traditional distressed fund, the strategy usually calls for buying heavily-discounted debt at struggling companies and either holding the debt through a rally or participating in a restructuring, possibly in return for an equity stake. The default rate for speculative-grade debt was 2.4% in September, according to S&P Global Ratings. Corporate defaults in the U.S. have declined 73% so far in 2021 from a similar period last year, the rating firm said on Nov. 5.

The opportunity funds in large part focus on private credit, the booming sector that allows risk-hungry investors to find the yields they crave largely through direct loans to smaller companies without broad market access.  Private debt firms have raised over $150 billion in 2021, according to Preqin.

Of course, distressed-debt funds may yet enjoy a rebirth. The Fed is widely anticipated to start cutting its stimulative bond-purchase program this month, which could pave a path of trouble for some borrowers.

--With assistance from Akayla Gardner.

© 2021 Bloomberg L.P.

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