Reuters- Hedge funds are driving a surge in demand for the riskiest credit derivatives, with winner-takes-all strategies that appear to have turned the art of investing into the financial equivalentof extreme sports.
As hedge funds jostle for space in London’s elite Mayfair district, intense competition has created an atmosphere in which only the highest possible returns will suffice, bankers say.
While coupons on investment grade corporate bonds are routinely about 5 percent, the most radical new derivatives pay up to 60 percent on an upfront basis, in exchange for insurance against defaults on bespoke portfolios of corporate bonds.
“Hedge funds are huge fans of these trades, where they can earn millions of dollars upfront,” said a structured credit trader in London. “It’s extremely high risk, but presumably they don’t think any defaults are going to happen soon.”
The move into risky investments reflects a wider trend in the credit markets.
Much of the focus is on so-called equity risk, in which investors offer to insure the first 3 percent of defaults on a portfolio of 100 to 150 companies.
