Beware of Corporate Debt, Even Non-Junk, Says David Einhorn

Prophetic on Lehman in ’08, hedge fund operator claims rating agencies go too easy on debt-laden companies.

David Einhorn sniffed out fixed income trouble in 2008 and sees more ahead in the US corporate bond market. In fact, the hedge fund chieftain is shorting corporate debt.

So downbeat is Greenlight Capital, his firm, about corporates that it is betting on price tumbles for both investment-grade and junk-rated paper. And he points a finger at ratings agencies for going easy on companies that load on debt.

Right now, of course, defaults are low for corporate bonds, both investment-grade and not. And bond issuance has been robust amid low interest rates. A good chunk of those new bonds are to fund acquisitions, whose debt is a burden going forward. Perhaps the agencies are buying acquirers’ line that the new combined entities, no matter how highly leveraged, will be stronger and future results will offset the debt loads.

“Rating agencies have been complacent and allowed debt/Ebitda and debt/equity ratios to deteriorate without a corresponding reduction in credit ratings,” Einhorn wrote in a recent letter to investors, according to Bloomberg. “Meanwhile, we are a decade into an economic recovery and there are signs the economy may be slowing.”

And it’s recessions that prove the undoing of many an indebted company, as revenue dwindles, and thus paying interest and principal at maturity prove elusive.

Einhorn is far from alone in warning against a reckoning ahead for corporate bonds. Scott Mather, who is chief investment officer for US core strategies at bond house Pimco, in May sounded an alarm and recommended that investors opt instead for safer Treasuries. “We have probably the riskiest credit market that we have ever had,” he said, even worse than the run-up to the 2008-09 financial crisis.

A similar note is sounded by JP Morgan Asset Management’s head of global fixed income, Bob Michele. This spring, he did an about-face and suggested shedding corporates because it is late in the economic cycle, and these bonds get hurt in downturns.

Einhorn proved remarkably prescient in 2008, when he repeatedly inveighed against Lehman Brothers, which he viewed as laden with toxic housing-related debt, and ready for a fall. He also charged that it used dubious accounting practices. When Lehman collapsed in September of that year, which touched off the crisis, he emerged as something of a savant.

Since then, he has had ups and downs. In 2018, his main fund lost 34%, thanks to his value investing philosophy, which hasn’t been in vogue for some time. This year through June, however, it is up 18%, the result of more concentrated bets.

Greenlight couldn’t be reached for comment.

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