Distressed debt is any form of debt instrument that is in default, is under bankruptcy protection, or debt securities that trade at discounts that reflect market expectations of a future default of payments. Distressed Debt can apply to the debt of both corporations as well as that of Governments.
Distressed Debt, as well as High Yield Bonds, are two branches of Alternative Asset Classes. The distressed debt market is cyclical as default rates of debt tend to fluctuate in accordance with the business cycle, the cost of capital and the availability of funding for institutions seeking funding in that capital markets.
Financial restructuring is the process of reorganizing the financial structure of a company. A company’s capital structure, primarily its debt and equity securities. Financial restructuring or reorganization can be done either voluntarily or compulsory when a company enters bankruptcy or goes into receivership.
The Fulcrum Security
A Fulcrum Security is security that will ultimately take control of a company in the event of a reorganization. In a reorganization, the most senior security that gets converted into equity usually control the reorganization proceedings.
However, one of the biggest challenges with distressed debt is to identify which security will turn up to become the fulcrum security by identifying its location in the capital structure.
Original issue high yield refers to bonds that were issued with a below-investment-grade rating. Fallen Angels, on the other hand, are bonds that were investment grade at the time of issuance but have since been downgraded to below investment grade. According to research, investing in Fallen Angels has significantly outperformed original issue high yield. His pattern is found across both U.S. dollar and Euro markets, in both absolute and risk-adjusted terms.
Read More on Distressed Investing
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