(Bloomberg) -- A distressed-debt rally driving gains in high-yield funds still has room to run in countries as diverse as Argentina and Ukraine, according to the hedge fund with the one of the best performances in the asset class.
Junk-rated emerging-market dollar debt has returned more than 13% this year — with most of the top sovereign bond performers in distressed and defaulted credits — namely Argentina, Ecuador, Lebanon and Ukraine, according to data compiled by Bloomberg.
Genna Lozovsky, CIO and co-founder of Sandglass Capital Advisors, says there’s still money to be made in the space — particularly where structural reforms and economic growth coincides with ample funding that comes from the Federal Reserve lowering interest rates. While economic overhauls in developing countries aren’t as “convincing” this time around, a soft landing in the US can support emerging-market assets, he said.
“Unquestionably we have seen a strong move higher in the average price of distressed credits, but there remains quite a bit of dispersion and many idiosyncratic opportunities remain lucrative,” according to Lozovsky, whose firm oversees about $515 million in net assets.
The most recent survey of hedge funds by Global Investment Report showed the fund has rallied more than 24% in the first three quarters of the year, making it one of the best-performing of the 50 on the list tracked. That compares with a Bloomberg index for emerging-market debt hedge funds, which has gained about 10.6% this year, and a 16% climb for a gauge of distressed debt funds more broadly, Bloomberg data show. The survey’s ranking of broad strategy funds that manage at least $300 million takes into account how the fund has done in years past, to rule out those that are too volatile in performance.
The top candidate to generate further gains remains Argentina, whose sovereign dollar bonds have provided 10 times the returns for emerging-market debt on average. In case President Javier Milei’s economic program proves successful, investors may end up earning 30% to 40% from the yield compression in longer-dated bonds if the country’s long-term risk premium next year tightens to something similar to El Salvador, Lozovsky said.
“Argentina is by far the largest in depth given the $60 billion bond stack,” said Lozovsky, who leads a seven-member investment team from London focusing on emerging markets outside China.
Ecuador, which suffers from chronic underinvestment in the energy sector, trades at similar yields to Argentina and faces a narrower set of risks. Sri Lanka, soon to complete its debt restructuring, is appealing for investors who believe in the sustainability of its rapid recovery, he said. All assets in Ukraine – especially low-priced sovereign debt and GDP warrants – would benefit tremendously from a ceasefire, he added.
The Sandglass executive also sees opportunities in emerging-market debt outside distressed countries, like Turkey.
“The Turkish central bank remains steadfast in their pursuit of lowering inflation in the country, and the government deserves credit for avoiding a mid-year increase in minimum wage,” he said.
Another country Lozovsky looks at is Egypt, which he said suffers from a structural current-account deficit that has been exacerbated by the region’s conflicts affecting receipts from trade via the Suez Canal and tourism. The main challenge remains inflation, which also increases the local-currency debt burden.
Lozovsky is also touting opportunities in corporates, which can be more flexible in their funding and were able to refinance and extend maturity profiles when rates were lower, he said. This helped developing-nation corporates to withstand the sharp move in rates in 2022 and 2023.
“It’s a difficult situation for those corporates who lost precious growth time during the pandemic and whose post-pandemic recovery has been insufficient to compensate,” he said. “Some examples where we have seen this include airlines in Brazil and a range of telecoms around Latin America, Eastern Europe and Africa.”
(Updates performance of junk-rated EM dollar debt)
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