Hedge-fund managers are putting a new twist on credit-default swaps, using the contracts to fortify bets on troubled companies, the Wall Street Journal reported today. The swaps, which work like insurance policies when companies default on bonds and loans, fell out of favor after Wall Street’s outsize bets on the swaps soured during the financial crisis. Now, investors are increasingly combining credit-default-swaps trades with elements of activist investing to push companies toward default in some cases and away in others. The average market capitalization of the five most actively traded nonfinancial companies in the credit-default-swaps market has been about $6 billion since March, according to data from Depository Trust & Clearing Corp. and S&P Capital IQ. That’s down from $20 billion at the end of 2013 and well below the $16 billion average since July 2010, when DTCC began collecting the data. Swaps trades have “been more prevalent in the distressed-credit world recently,” said Michael Henkin, co-head of restructuring at investment bank Guggenheim Securities. The trend has renewed a debate about the swaps, which are rarely disclosed by those who use them. It is also making it harder for companies that have fallen on hard times to gauge the motives of shareholders and creditors, because they seldom know who owns credit-default swaps, or CDS, and might benefit from a default.
