“Shorting debt is attractive because all you can lose is the coupon whilst the possible gain is up to 100 per cent of the face value of the debt,” said Mr Hempton, adding that due to the low-risk nature of the strategy, debt shorts could become as much as 40 per cent of the fund’s holding.
John Hempton won’t reveal the companies the fund has shorted. Jeremy Piper
The companies Bronte is targeting, however, will likely remain a mystery, with Mr Hempton telling investors it intended to remain “very secretive” about the business involved, due to the aggressive nature of the strategy.
“They rely on the company going bankrupt for us to get properly paid,” he said. “We think several of these companies are at risk of going bankrupt and, in many instances, deserve to go bankrupt.”
Bankruptcies boom
The fund’s bearish bet comes as global insolvency rates climb to decade-highs as weakening economics, high-inflation and rising interest rates squeeze company margins.
In the United States, bankruptcies hit a 13-year high in 2023, according to data compiled by S&P Global Market Intelligence, with the majority in the consumer discretionary sector.
More than 900 Australian companies entered administration in February, up 40 per cent on the same month last year, according to the latest figures from the Australian Securities and Investments Commission. The spike marked the largest number of monthly insolvencies since October 2015.
Sal Algeri, who leads Deloitte’s Australian turnaround and restructuring team, said levels of business stress were still high, predicting insolvencies to reach 1000 companies a month in the near term.
“We still have a lot of what’ve been called ‘zombie companies’ that still need to wash through,” he said.
“It’s not the top end of town that’s failing, it’s the smaller and middle market that have been impacted by the rising costs of doing business and have limited access to funds from traditional lenders.”
‘More pain ahead’
Equity markets, however, appear to be largely shrugging off the difficult environment, with the S&P/ASX 200 joining global markets in setting multiple record highs since signs began to emerge late last year that global central banks may be nearing interest rate cuts in the coming months.
The global rally has hurt returns for long-short funds like Bronte, which have seen their short books squeezed as the valuations rise.
Reece Birtles, chief investment officer at Martin Currie Australia, said the market was looking past the current weakness in earnings to a period where interest rate cuts had begun and consumers were more bullish. Still, he said, there may be “more pain ahead” before that time.
“Clearly the earnings environment is quite poor, but share prices have been quite strong – the market is definitely looking through this trough,” he said.
Mr Birtles pointed to Orora. The ASX-listed bottle maker sank more than 15 per cent on Tuesday after revealing weaker-than-expected global demand – as an example of how global economic pressures were beginning to emerge after the months-long rally.
“That kind of destocking is not supportive of the arguments that demand is holding up,” he said, adding that the weak demand and high margin pressures were at odds with the scenario markets expected.
