As hedge funds continue to get decimated and investor money shifts rapidly to private equity and private credit, the negative news for distressed investors is piling on heading into the new year.

Here is an excellent Financial Times piece about GSO, the massive $142b fund manager that is in the midst of significant senior management transition. Among many interesting tidbits, the article cites the problems that GSO is having trying to keep committed capital as “key man” managers depart and performance suffers:

Blackstone set about trying to persuade investors to keep faith with its $7bn distressed debt fund, but matters were complicated by heavy losses on distressed debt investments linked to GSO’s energy franchise, which Mr Scott used to run. One of the troubled energy companies, Oklahoma-based Tapstone Energy, whose board Mr Scott previously sat on, this month missed an interest payment on its debt.

The setbacks wiped out most of the gains made by investors in Capital Solutions II, a previous fund that investors viewed as similar.

PETITION Note: it probably won’t help matters when Tapstone Energy definitively files for bankruptcy. Tick tock, tick tock…it should be any day now.

What the piece illustrates is that, for many funds, energy-related performance in the middle of the decade has since taken a dramatic turn for the worse — wiping out gains that, at one time, helped (a) make various investors much richer via bonuses and (b) follow-up funds raise cash.

Between June 2013 and the end of 2017, the predecessor fund had notched up annual gains of 14 per cent, securities filings show. By the end of September 2019, however, Blackstone’s portfolio valuation indicated that those profits had all but disappeared, leaving investors with net internal rate of return of just 1 per cent.

The ramifications of this extend beyond having to discount fees in order to maintain funds. Perception risk — elevated by an extraordinary amount of coverage in the mainstream and other media outlets about “manufactured defaults” — is now apparently front-of-mind for GSO.

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