Daniel Loeb, the billionaire hedge fund manager, has blasted the Federal Reserve for extending its assistance to the junk bond market where companies owned by private equity groups often raise capital, saying it is “fraught with moral hazard on several fronts”.
In the latest quarterly letter to investors in his $13bn-in-assets fund, Mr Loeb wrote that he was “dismayed” by the Fed’s decision to buy shares in exchange traded funds that own high-yield bonds.
The US central bank has extended its intervention in the financial markets repeatedly in recent weeks by offering to buy increasingly risky assets, hoping that doing so will protect the smooth functioning of markets and bring down borrowing costs for companies hit hard by the economic slowdown caused by the coronavirus.
As well as junk bond ETFs, the Fed has also said it could directly buy the bonds of companies that are downgraded to junk status by rating agencies.
“This does nothing to support an economic recovery but will simply prop up asset prices in the short term and perhaps offer a reprieve to market participants who profited handsomely for years by using excessive debt to give the illusion of high returns,” Mr Loeb wrote.
In the unsigned letter published on Thursday, Mr Loeb said he feared that the Fed’s ownership of the bonds of struggling companies could complicate debt restructuring talks and bring a political dimension to bankruptcy proceedings.
“In a free market, it is rightly the role of the many thousands of market participants to price credit risk,” the letter went on. “The socialising of this risk is fraught with moral hazard on several fronts.”
Third Point said it had invested $2.2bn in structured and corporate credit last month, essentially doubling its exposure as spreads on investment grade corporate debt widened to levels not seen since the last financial crisis.
Overall, the value of Third Point’s assets declined by 16 per cent in the first three months of the year, largely due to activist stakes in European companies. Prudential, the UK insurer which is one of the group’s largest positions, was among its worst performers with shares in the company down 40 per cent since the sell-off started in late-February.
Third Point was also hurt by exposure to aerospace companies, which have been particularly hard hit by the virus’s effect on customers. “Put simply, we got aerospace wrong and were not hedged adequately to protect against coronavirus-driven losses,” it told investors.
Outlining the impact of the pandemic on its portfolio, Third Point described Covid-19 as “the worst global crisis” it has faced and said it was not adequately prepared for its effects on the economy.
It said it expected there was more pain to come. “Over the last decade, the world has binged on buybacks, unicorns, private equity dollars, easy loans, and return-chasing in an ultra-low rate world. This bubble is popping now too.”
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