David Rosenberg is a managing director at Oaktree Capital and the Los Angeles-based co-portfolio manager of its US and global high yield bond strategies. In an interview with FinanceAsia he shares his views on a number of market trends back home and his key takeaway during his Asia tour. The visiting executive touched on the next big US shorting opportunity, the current US presidency, and what 100-year bonds mean to professional investors.
Q. What is your approach to high yield bond investing?
A. We're not macro forecasters, so we don't come at the beginning of the year with some view that oil is going to do this, interest rates are going to do this other thing, and I'm going to position the portfolio accordingly to capitalise on all of that.
We build a portfolio that can weather through the unexpected events and expect the company [whose bonds we buy] can still pay us back. That’s really the key to me: to build a bond portfolio [where] all these companies can pay you back.
Q. How do you prepare your portfolios for shocks in the market?
A. If they were expected they wouldn't be shocks. You can't time something to an unexpected event, and so we go fully invested. That's our goal.
Q. What will be the next big short in the US market?
A. Retail could be, but there are different types of malls. The retail industry tends to sub-segment the mall -- A, B, C, or D. If you have a C or a D mall, those are very likely going to get shut down. If you have an A or a B mall, a lot of those are actually still doing okay, so it really depends on who the anchor tenant is going to be.
If you had a department store anchor tenant, those are challenging stories. Most department stores, you have to question if some of them still need to exist. Some of the malls are repurposing a lot of the big buildings into office buildings or data centres, because you have parking, you have space, and so there's a purpose.
Q. How do you approach risk in your portfolio?
A. Today the market is perfectly happy taking below-average rewards for above-average risk, and that tends to be a difficult combination. It tells me that people are really reaching for returns.
They're willing to overpay. They're being much more risk tolerant. Right now I think people are accepting risk in some of these markets [when] they shouldn't be.
Q. Do you see any noteworthy trends in Asia?
A. The one thing that I've noticed when I've been talking to people in Asia right now is that there is a strong desire to earn a reasonable income, but a strong aversion to taking excessive risk, which I think is a prudent thing to do, but a difficult thing to put together.
Q. How would you compare investment grade debt and high yield debt at the moment?
A. When you start looking at the return prospects of investment grade debt, the yields have gotten so low that the trade doesn't actually make you any money. If you go into high yield with the right strategy, and you avoid the really risky CCCs and say, “I'm going into the core of the market and I have a discipline as to how I can pick which companies are going to survive and which don't,” you can go into high yield without taking too much risk, and the risk-reward trade-off is quite attractive.
Q. Is there opportunity for high yield in the Asia market?
A. I do think there's a real value, which is, if you're in a market like Asia where there's quite a lot of capital to be put to work and not a lot of opportunities to do it, the high yield market is an attractive way to get a reasonable income without having to take too much risk. You're starting to see things come back like the century bonds.
Q. What are your views on century bonds versus developed market bonds?
A. I don't know what the world will look like 100 years from now, let alone the company, and so, to me, to have that kind of conviction, I just don't understand that. What I find is, instead, what more people are saying is, “Well it's a 100-year bond but I'm going to sell it well before there's ever a problem.”
Being the first one out tends to be a strategy fraught with pitfalls and tends not to end well for people. When demand exceeds supply you have two options if you want to guarantee you get to source the opportunity: you can overpay or you can accept suboptimal terms. And you can argue with things like century bonds, people might be doing both. They're not getting paid for the 100-year risk, and taking 100-year risk is suboptimal.
Q. What are the some other interesting themes in the market currently?
A. New market direct lending I think is an interesting theme in the market. Banks in Europe and the US have been committing less and less capital to the market. If you look at the data, banks who are starting to pull out of these markets, it was more because they were shifting from lending-based models to fee-based models. They like having the fee-based models instead. As the high-yield market has grown, small issuers have found it more and more difficult to get access to the markets. There's an interesting niche or a void. Whenever there's a void or an underserved market tends to be an interesting opportunity in my view.
Q. What are you moving away from?
A. Within high yield, we tend to look at the commodities, metals and mining in particular. One of the things that I've learned over the years, when you think about commodities, is [that] you can accept the fact that they're above-average risk because you have this unknowable, which is the price of the commodity. So we're perfectly fine buying above-average risk sectors, we buy high-yield bonds, but you should get above-average reward to buy above-average risk. For me right now, I just don't think you get paid in that sector for that kind of risk.
Q. Is the BB bond area your favourite segment?
A. Actually, in fact, we find mostly Bs. So the reality is CCCs right now we tend to not find very interesting. I think the risk-reward tradeoff generally is not there. I think you can add a lot more value in B. B to CCC is about 200 basis points differential, BB to B is probably another 150, and so that would be your differential. I would say it's not quite record-low spreads. But it's getting there. It seems to grow tighter and tighter every day.
Q. What has been the effect of US President Donald Trump on the market?
A. I think that there was a lot of euphoria when Trump became president. The market certainly reacted favourably. Now I think the market's waiting to see if all the promises can be [put into effect]. In politics, nothing's ever straightforward, so I think we'll have to see what works and what doesn't. If a lot of these policies don't get enacted, then I imagine some of that euphoria is going to come back out of the market.
Q. What are some of the major misconceptions in the market today?
A. When you look at a B bond, the default risk of one B bond is very different from the default risk of another B bond. The story of the company is actually more important because not all of them perform the same. So you have a company where the growth trajectory has changed. The equity will revalue because you can no longer put a growth multiple on the equity. But from the bond perspective, all I want them to do is generate enough cash to pay me back. So if they're not growing, but they’re generating enough cash to pay me back, then there's no reason for my bonds to go below par. My bonds will be fine.
Q. Where do you see defaults in the US coming from?
A. Right now it's reasonable to assume that, if everything stays steady as strategists say, [at] 2% to 3%, it's benign from that perspective. Not a lot of default expected in the near term, relative to history.
Q. What impact do you see the gradual tightening of monetary policies on high-yield bonds?
A. I think if it's done at a reasonable pace, and it's done for the right reasons because the economy is growing, then I think the market can absorb it and will be okay. I think if things are overshot in one direction or another, then you'll see a [stronger] reaction to it. So far the governments, both in Europe and the US, have been pretty sensitive to that reality, and so things have gone fairly slowly. But I'm no good at predicting whether they're going to continue to be reasonable, so I think that's really the key. It's hard for me to predict if politicians are going to continue to reasonably drive this programme. They're smart people. But if they don't, I know that I've built a portfolio to withstand the shock, whatever it may be.
