Sectors that have experienced severe distress, like Commercial Mortgage-Backed Securities (CMBS), often present compelling opportunities. The crisis forces tighter lending standards and realistic asset repricing. This creates a safer investment environment for new capital, precisely because other investors remain fearful and avoid the sector.
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Post-crisis stigma has faded, making Collateralized Loan Obligation (CLO) tranches a top relative value pick in credit markets. The structure allows investors to precisely select risk exposure, from safe AAA tranches with attractive spreads to high-return equity positions, outperforming other credit assets.
True investment courage isn't just writing the first check; it's being willing to invest again in a category after a previous investment failed. Many investors become biased and write off entire sectors after a single bad experience, but enduring VCs understand that timing and team make all the difference.
The classic distressed debt strategy is broken. Market dislocation windows are now incredibly narrow, often lasting just days. Furthermore, low interest rates for the past decade eliminated the ability to earn meaningful carry on discounted debt. This has forced distressed funds to rebrand as 'capital solutions' and focus on private, structured deals.
The credit market appears healthy based on tight average spreads, but this is misleading. A strong top 90% of the market pulls the average down, while the bottom 10% faces severe distress, with loans "dropping like a stone." The weight of prolonged high borrowing costs is creating a clear divide between healthy and struggling companies.
While default risk exists, the more pressing problem for credit investors is a severe supply-demand imbalance. A shortage of new M&A and corporate issuance, combined with massive sideline capital (e.g., $8T in money markets), keeps spreads historically tight and makes finding attractive opportunities the main challenge.
The speaker notes that former cable industry advocates are now completely silent and unwilling to reinvest. This mass abandonment by knowledgeable supporters is a key indicator of how a sector becomes deeply undervalued, creating a potentially "scary" but ripe opportunity for contrarian investors.
The market is focused on potential rate cuts, but the true opportunity for credit investors is in the numerous corporate and real estate capital structures designed for a zero-rate world. These are unsustainable at today's normalized rates, meaning the full impact of past hikes is still unfolding.
Oaktree sees superior relative value in non-qualified residential mortgage-backed securities (RMBS). The US housing market is under-supplied with tight lending standards. This contrasts sharply with commercial real estate, particularly the office sector. Investors can acquire these non-government backed loans at a discount, offering high-yield-like returns with diversification.
The valuation gap between public and private real estate is historically wide. Sunbelt apartment REITs trade at implied cap rates of 6.5-7%, while similar private assets trade near 5-5.25%. This disconnect presents a compelling opportunity for public market investors to acquire quality assets at a significant discount.
While rising rates caused a violent valuation drop in commercial real estate (CRE), they also choked off new development. This lack of new supply—a primary driver of winners and losers in CRE—creates a strong fundamental tailwind for 2026-2028, making the sector more stable than recent volatility suggests.