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Investment Process

Does the buy side usually model financials quarterly?

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On the buy side, whether to model financials quarterly depends on the fund’s strategy. Long-term value strategies focus on forecasting multi-year cash flows rather than earnings over the next few quarters. The Baupost Group is a prime example of a long-term focused value investor. On the other end, funds with a 6-9 month time horizon focus on predicting quarterly forecasts. These are typically long/short hedge funds, and Citadel and Point72 are well-known examples…

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What is the research process for shorting a stock?

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There are 3 main aspects of researching a company: quality, catalysts, and valuation. Each investment process emphasizes on 1 to 2 aspects. For example, value investors look for cheap valuation and quality business. Growth/momentum investors look for strong catalysts. GARP investors look for quality businesses bought at a reasonable price. Shorting a stock mostly focuses on the catalyst aspect…

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How to Value Distressed Debt – the Practical Guide to Distressed Investing

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I was excited but anxious when I first joined the Special Situations Group at J.P. Morgan. It was 2008, at the height of the financial recession, and distressed investing sounded intense. To value distressed debt seemed arcane and complex. I knew financial modeling and I was hungry to learn, but what if I didn’t cut it for the job?

I felt the intensity when I took on my first project: value Chrysler’s distressed loans. I spent a year in investment banking prior to joining Special Situations, and I knew how to project financials and value a company. But how would I find out whether a distressed debt is cheap or expensive?

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How do I value distressed debt?

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Distressed debt valuation is about asset coverage. You want to find out whether high yield debt is covered by the company’s enterprise value for the base case, and covered by the liquidation value of the company’s hard assets in a downside case. When a company files for Chapter 11 restructuring, debt is usually restructured based on the company’s enterprise value, which is typically valued using EV/EBITDA. This is the base case. In a downside case, the company files for Chapter 7 liquidation, in which the company sells its hard assets at a discount to pay back creditors…

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