Market signals bode ill nowadays for investors looking to deploy cash into liquid markets, according to distressed debt investor Oaktree Capital Group.
The powerful mix of portents is akin to a “witch's brew,” Oaktree's chief executive officer Jay Wintrob said on Monday.
Wintrob rattled off a list of market anomalies that he reckons signal we are in the end days of a bull market.
Among them is investors’ complacency towards geopolitical risk: in Korea, there has been a notable lack of reaction across equity and credit markets to North Korea’s missile launches.
Argentina’s issue of $2.75 billion worth of 100-year debt was oversubscribed, despite the government defaulting on its bonds in 2001. Meanwhile Kazakhstan’s sovereign bond, due in 2025, was trading at a yield as low as 3.5% on Monday.
The yield on the broadest European stock index is higher than on the broadest European high yield bond index, he noted. The STOXX Europe 600 index was yielding 3.32% on Monday while the Bloomberg Barclays Pan-European High Yield Index was showing a yield to worst of 3.27%. “That seems odd to me,” said Wintrob.
In Japan if savers put money in the bank they have to pay the bank interest, he continued. In the US robots are driving 40% to 50% of investing in liquid, efficient equity markets. “We’ve created machines that can help you buy high and sell low,” he said.
“There is a lot of stuff going on globally that indicates we’re clearly a lot closer to the top than the bottom,” said Wintrob, speaking to a small group of journalists in Hong Kong.
In credit markets he pointed to very high levels of debt issuance with little in the way of covenants. “The borrowers are beating up the lenders,” he said.
Other investors have also flagged the dangers of buying credit with little protection.
“When I think back across my own experience running at almost 50 years, I cannot think of a period of time when you had less covenant protection,” said Michael Milken during the Milken Asia Summit on September 14.
Lawrence Golub, CEO of Golub Capital chimed in saying in the US syndicated loan markets borrowers were offering very little in the way of covenants. That means “as a senior lender you have no seat at the table until the company literally runs out of cash".
Oaktree, as the world’s biggest distressed debt investor, would of course see more investment opportunities if companies defaulted on their bonds. The Los Angeles-headquartered firm manages about $25.8 billion in distressed debt.
Wintrob called on governments in China and India to do more to push their banks to recognise bad debts. The bankruptcy process is developing across the region and as the outcomes of default workouts become more predictable and courts give creditors priority more often, there will be more opportunities for distressed debt investors, he said.
“China is ahead of India,” in that respect, he said. Oaktree has invested in four pools of non-performing loans in China.
Investment frenzy
Investors appear to be in a frenzy of deploying capital into liquid markets, he said, rather than accept less yield on less risky instruments.
China seems to be doing its bit to tamp down demand. Wintrob said Oaktree has spoken to some Chinese investors who had told the firm “We want to invest but we can’t right now.”
This attempt to stem demand has reverberated around the world, for example hitting demand for high-end residential housing from Sydney to Southern California, he said.
Oaktree is primarily an alternatives investment management firm, so has itself been a beneficiary of the hunt for yield in terms of fundraising.
“Asia Pac has been a bigger market for Oaktree to raise money than than for Oaktree to invest money,” Wintrob said. About 14% of its assets under management is from clients based in Asia; this has been spread across about 24 of its investment strategies.
In mid-2016 AsianInvestor surveyed the top 300 institutional investors headquartered in the Asia Pacific region and found that 60% of these pension funds and insurers planned to raise their allocations to alternatives within a year, up from 37% in the previous year’s survey.
That is not insignificant. Whilst Asia’s investible assets are still small relative to the US, the pot is growing fast. In Asia ex-Japan and ex-Australia alone, assets under management doubled to $24.5 trillion between since 2008 and 2016, according to AsianInvestor’s survey.
To capture some of this capital Oaktree has bolstered its marketing team in the region. It now has about 60 people in Asia Pacific, half of whom are investment professionals.
Oaktree estimated that while active investment strategies are seeing no growth in assets under management, alternative strategies are growing 4% to 6% annually.
Oaktree has worked with investors across Asia who are dabbling in real estate for the first time or say private debt. The US firm has even embedded staff at its largest clients in Asia to help them build out their own alternative investment teams.
“The region where allocations to alternatives is growing fastest is clearly Asia,” because many of the region’s assets owners are growing in the asset class from a very low base.
To be sure, the bull market across asset classes could go on for a long time and the trigger for a market correction was unclear, he said. However, when realisation kicks in it is likely to be messy.
“If there is a problem, you’ll have a big reaction, because no one is prepared for it,” said Wintrob.
