For the longer-term, 75 per cent viewed distressed debt as the most profitable strategy, with only 17 per cent keen to pursue merger arbitrage. For now, classic merger arbitrage is the strategy in which $14 billion multi-strategy US hedge fund manager Halcyon Asset Management is placing most of its weight. John Bader, Halcyon’s chief investment officer, says the firm has put 75 per cent of its money into merger strategies, 15 per cent to credit strategies and 10 per cent towards special situations.

The manager views equity long/ short strategies as crowded, limiting the prospects of generating alpha through them. Also, it doesn’t think conditions suiting a tilt to distressed debt strategies have yet materialised. This is due to an environment in which Credit Suisse reported that quarterly high-yield default rates in the US for Q4 2007 were at 2 per cent, compared to 18 per cent in 2002. “You make money when default rates have peaked and are on their way down. Right now high yield defaults are still low. The default rate will go up when the economy goes down the tube,” Bader says.

Yet Halcyon has recruited a team to buy asset-backed distressed debt. Pricing of debt of structured vehicles has dropped dramatically. Bader says the type of debt the firm is currently targeting is not corporate distressed, but involves other forms of “often misunderstood” credit, such as manufactured housing, aircraft leasing, AAA-rated non-subprime mortgages and credit card structured debt. The manager will also consider loaning money to midcap companies who may find it hard to draw money from seized-up credit markets.

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