Debt short-sellers come back with a bang

IFR 2287 8 June to 14 June 2019
6 min read
Americas, EMEA
Christopher Whittall

Betting on company defaults is big business once more.

For years, companies had no trouble rolling over their debt thanks to easy borrowing conditions across the globe. But a number of borrowers hitting the financial buffers of late have created opportunities – and casualties – among the banks and funds trading this market.

The European high-yield credit trading units at Goldman Sachs and Credit Suisse have performed particularly strongly this quarter, according to people familiar with the matter, after getting on the right side of some big moves in bonds and derivatives markets.

By contrast, Citigroup’s high-yield trading operation has had a tricky quarter in Europe, with Andrew Jarman, a credit trader in the bank’s London office, leaving last month after racking up paper losses in the region of US$10m related to credit default swap protection sold on embattled travel company Thomas Cook, people familiar with the matter said.

JP Morgan has also struggled this quarter in European high-yield trading, according to people familiar with the matter.

Those setbacks show the risks of trading in this ageing credit cycle, with markets prone to sudden gyrations whenever concerns grow over a company’s creditworthiness. But they also underline the money-making opportunities on offer.

Presumably with the latter in mind, former BlueMountain Capital Management and BlackRock executives are nearing launches for their own credit hedge funds in the coming weeks. Both will look to generate returns by betting on whether companies will default – a clear sign of the growing interest among investors in strategies designed to benefit from a pick-up in credit market volatility.

“This is most definitely a time in the credit cycle when you want to be long/short” credit, said one investor.

“There are plenty of mispriced credits out there – both long and short.”

Jarman, who Bloomberg reported is set to join BGC Partners’ GFI unit, could not be reached for comment.


The interest in long/short credit funds represents something of a turning point following years of ultra-low default rates. That has particularly been the case in Europe, where the European Central Bank’s trillions of euros of government and corporate bond purchases have lowered borrowing costs across the board.

The global default rate in advanced economies fell to 1.6% in 2018 from 2.3% the previous year, according to Moody’s. The vast majority of the 66 defaults among non-financial companies with rated debt were in North America, with 50 defaults in the US and five in Canada, while 10 came from Europe.

That did not make it an easy environment for long/short credit investors. In Europe, these funds on average returned –6.4% in 2018, according to research and data provider Morningstar Direct, while equivalent US funds returned –1%.

But things have changed in 2019, with European and US long/short investors returning 2.2% and 3.8%, respectively, so far this year.

“Credit does get interesting when you have a little bit more volatility than in the last few years,” said another investor.


As a result, a growing number of funds are looking to get in on the action.

Peter Greatrex, who left alternative investment specialist BlueMountain in 2017, last year set up Boundary Creek Advisors and has raised around US$150m–$200m ahead of a launch planned for early next month, according to company filings and people familiar with the matter. Boundary, which has an office in New York, has hired a number of staff and also opened a London office this year.

Greatrex was previously a managing partner and head of private investments at BlueMountain and had also headed research globally at the credit specialist. A single-page company website says that Boundary Creek Advisors will be dedicated to “uncovering long/short credit investments across North American and European debt markets”.

Tresidor Investment Management, founded by former BlackRock executive Michael Phelps, is set to be launched this week, according to a person familiar with the matter. Tresidor will “invest into the full spectrum of tradeable European credit”, according to the company’s website. Phelps previously oversaw US$35bn of European credit investments at BlackRock, the asset management giant, the website said.

Private-equity giant Blackstone Group provided seed money for the fund, according to a person familiar with the matter. (A Blackstone-led consortium has a majority stake in Refinitiv, which owns IFR.)

New-York-based hedge fund Diameter Capital Partners has also been looking at opportunities in European credit, according to people familiar with the matter.

Scott Goodwin, who co-founded Diameter in 2017, recommended buying CDS protection on Rallye at the Sohn Investment Conference last year. Goodwin said the holding company of French retailer Casino was “burning a material amount of cash” and had a large amount of debt maturing in the next year.


Last month, a French court placed Rallye under credit protection, triggering credit default swaps. Shortly before that, Thomas Cook’s bonds plummeted after the travel company issued its third profit warning in less than a year.

In both cases, the market moves were fast and brutal, leaving little room for traders caught on the wrong side to cover their positions.

The upfront cost of buying five-year CDS protection on Rallye leapt from 48 to 73 points overnight after the company entered creditor protection, according to data provider IHS Markit. Upfront costs on Thomas Cook jumped from 34 to 65 points in the space of a few trading days after its profit warning.

“If you’re blindly providing liquidity, you’re going to get burnt in this market,” said one credit trader.

A Thomas Cook Airbus A330 aircraft prepares to take off from Manchester Airport
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