The sharp fall in the market triggered by the pandemic brought an abrupt end to the longest recovery in modern finance. But despite the turmoil sparked by COVID, it hasn’t wrung out the market excesses of the last 13-year cycle. This means that another wave of corporate bankruptcies could appear on the horizon in a shorter period of time than expected and provide more opportunities for troubled debt investors, according to Victor Khosla, founder of SVP Global.
Speaking at FIS Digital 2021, Victor Khosla, founder and managing director of SVP Global, said that because the ECB and the Fed issued such massive checks, many people “got a pass.” Sectors like leisure, travel and real estate have had to restructure, but other activities have never been corrected.
That means all the ingredients are in place for another more real-life fix, he said.
As for the catalyst, changes in inflation and interest rates are obvious contenders, but other factors that investors “can’t figure out” (like COVID) could just as easily surprise. That said, he warned that central banks do not let go of political levers, and advised against betting against the Fed.
The most obvious opportunities at the start of the crisis were in large cap liquid companies. These companies did not go bankrupt, but generally sought to sell assets. Then the opportunity evolved with the restructuring of companies by another cash-strapped group of companies (Virgin Atlantic and JCPenney, for example), although Khosla noted that these companies did not offer the best opportunities.
The second half of 2020 and this year have seen more exciting opportunities, in which good companies with capital structure issues provide opportunities for investors. Most of the early opportunities were in the United States, he said, emphasizing how good the United States is at creative destruction, where sectors take the losses and move on. In contrast, that process is not as advanced in Europe, he said, reflecting on how SVP Global has a 75:25 US / Europe bias today, unlike its usual 50 split: 50 United States / Europe.
When it comes to opportunities, Khosla looks for specific characteristics, choosing companies that are resistant to a recession or that, if cyclical, bounce back from a crisis due to their high market share.
“We have the ability to buy them at their lowest level,” he said, describing the company’s ability to appropriate the majority of debt and equity in the restructuring process as a license. extended hunting.
For example, the company has a significant stake in Swissport International, which is part of the Chinese conglomerate HNA Group in debt following the restructuring of equity. Elsewhere, the company is a creditor of the Washington Prime Group outdoor malls, where it sees steady and growing traffic. Other opportunities include telecommunications and packaging companies and a construction products business, all characterized generally as private deals and not on the radar.
Khosla explained in more detail how opportunities in Europe have lagged behind the United States. The recession in Europe has been much worse than in the United States, where GDP declines in 2020 were not as sharp and the recovery in 2021 much stronger. In contrast, he described the European recovery as anemic, adding that Europe was in an economically worse position than the United States before the crisis, unaided by Germany and Italy close to recession and the difficulties of the country. banking sector in the region.
In a conversation with Kristian Fok, chief investment officer at Cbus Super Fund, Khosla said that while investing in troubled debt seemed courageous, it didn’t involve catching falling knives.
“The asset class has a good idea of its own limits,” he said. For example, he advises against investing in struggling tech assets because the pace of change is so rapid that by the time the bankruptcy and restructuring processes are complete, the technology has changed.
“It’s not for us,” he said.
Elsewhere, he noted how many sustainable asset companies are in secular decline and therefore should also be avoided – here he cited declining demand for paper as having an impact on the paper and pulp business. .
He also described emerging markets as being well above our pay grade given the various bankruptcy codes and the challenges of repairing businesses in emerging markets.
To further illustrate the caution inherent in struggling investments, he said that cash flow in many companies in which the company has stakes actually increased during the recession of 2019 and 2020. He also noted that the true Opportunities in the sector exist for investors who have operational teams to repair and improve businesses, and who are more than paper investors. For these investors, opportunities will continue to exist despite the overall declining level of defaults, he concluded.