It is just a few weeks since Michel Löwy, co-founder and CEO of SC Löwy, moved into a brand new 3,000 square feet office at the heart of Hong Kong’s central business district when he met up with The Asset. At the centre of the office are four rows of terminals with traders scrolling and staring at the screens. Adjacent were two meeting rooms, one large and a smaller one. A pantry is at the other end away from the windows.

 

Löwy stands in the middle row as one trader talks. Arms folded, he listens intently; brows knitted, a study in concentration. Twenty years ago, Löwy was in Tokyo at the Imperial Hotel just as the Asian financial crisis got underway. Working 20 hours a day, seven days a week, he was with the special situation group at Deutsche Bank trying to value the first batch of non-performing loans.

He would sit through these distressed debt meetings that lasted for hours in a windowless conference room where everybody was smoking. The discussion was in Japanese and then translated to English. “There were signs everywhere about saving money,” he remembers.

“In the winter, you are freezing in those offices; in the summer, it was crazy warm – 28C to 30C – because they only use a bit of air-conditioning. Same in Korea, you have those signs everywhere – please don’t open the lights – because of the IMF. You would see the large trading floor that would be completely dark.” It was a bizarre environment to be in.

Not that much different from the world of distressed debt that can also be at times bizarre and complex. Take it from Löwy: “A deal is a good deal if it can be refinanced. It does not mean it is a good company.” As a result, he spends his time trying to simplify what may be complex or what is presented as complex. “I often have conversations with many of my juniors in the team. If you are not capable of explaining it in simple terms that means you don’t understand the transaction.”

What Löwy is saying is that some transactions can be extremely complex. “You can talk for days about it – every little detail. Everybody can spend weeks looking at all sorts of details. They are irrelevant. The key is being able to assess what are the two or three key elements.”

And yet it may still not be enough; it is possible to get blindsided. Löwy recalls one case in Korea, the worst transaction at SC Löwy in his opinion, when some five years ago the firm lent to a borrower secured against metals inventory. Despite efforts on due diligence and to protect the inventory, when the situation got worse for SC Löwy’s counterpart, it moved the inventory replacing them with fake inventory.

 

He is philosophical about what transpired; fraud happens and you expect one every few years. “We kind of deserve it and I suppose it is never too late to learn. We should have gone further and found out that what was coming into the warehouse was real. It hurt us but not to the extent as to put the firm at risk.” He also tends not to overreact to such incidents in the same way when things are going great. For Löwy, it is mettre de l’eau dans son vin – you put a little bit of water in your wine.

It is an important trait that helps explain how SC Löwy managed to survive after eight years in fixed income trading, which is largely the purview of bulge-bracket Wall Street rivals and global universal banks. “I am sure there is some luck involved,” he proposes. “In anything you do, you need some luck.”

But the main thing that prepared him and his co-founder is that they never assumed it was going to be easy. “We believed from the start that it was going to be complicated but doable because many of our competitors were weakened and were going to continue to be weak.”

That was the time in 2009 when many of its big rivals were wounded in the aftermath of the global financial crisis. At the same time and because of the crisis, regulators were bearing down on the big banks imposing tougher rules on proprietary trading and setting higher capital requirements.

SC Löwy wasn’t the only firm that saw how markets were dysfunctional and wanted to take advantage of that opportunity. Many figured that it wasn’t about being smart or having enough working capital; it is about being at the right place and at the right time. “While that may be true to do a few profitable transactions, it is not true if you want to build a real business,” Löwy argues.

He remembers that in the first couple of years of the business, some of SC Löwy’s peers who were also independent were a lot more profitable than it was. “They were because they took a short-term view on how to make money,” Löwy believes. “They did not raise capital; they did not have a balance sheet – as it was expensive. We shared a lot more with the employees and with financiers because our goal was to build a platform and not just to make a few quick dollars in the first couple of years.”

One of the big moves SC Löwy undertook was to sell a 40% stake to two private equity firms in the first few months when it started. “We did not like the price at which we were selling that 40%. But in hindsight, it was a critical move that helped put us in a position where we can compete and raise more capital. We are long-term greedy.”

Today, he points out that the balance sheet that the firm can use to facilitate transactions for its clients is ten times larger than what may have been eight years ago. “What is interesting is that the balance sheet we can deploy – call it in the US$1 billion vicinity – is significantly           larger than many large investment banks,” he adds. “Clients come to us because they know that we can complete much bigger transactions, which is counter-intuitive.”

Löwy says the firm’s run rate this year is to transact over US$15 billion of assets. “There is a lot of velocity; there are over a dozen clients that do business with us regularly in many different products. We trade European loans, Middle Eastern loans, Asian loans and Australian loans on the secondary side. We do primary transactions as well. On the bond side, we are making market for most high-yield issuers in Asia. We also have a growing European high-yield bond trading platform.”

He agrees that Asia’s bond market has come of age. “That is why global high-yield investors are participants to this market,” he points out. “The depth of the market today is significantly greater than it was 10 or 15 years ago. There are more issuers and more players. We have hundreds of counterparties that deal with us on Asian high-yield bonds. It is more global and more diverse – institutional investors, hedge funds and private banks. It is disparate; it is a real market in many ways.”

 

Still, Asia is peculiar. “There tends to be times here when often everybody is a buyer, everybody is a seller and when the market is very wide you don’t have a lot of liquidity,” he notes. Although there are now hundreds of counterparties, he opines that it is still a small market. “Everybody is hanging out in the same place such as in Hong Kong and Singapore. People know each other and they take a view and they tend to go as a group in one direction or the other very often.”

There is another feature that is different in Asia, he says. “When you look at the US high-yield market, it operates during US office hours; you look at the London market, it operates during European hours; you look at the Asian high-yield market, we start trading at 7am with some counterparties in Australia; we trade throughout the Asian day; when London comes in, we trade with those counterparties. When New York comes in, we trade with them.

“We trade our Asian high-yield book 20 hours a day. The only time you have a break is from 5pm/6pm New York time until Australia comes in. At that time, nobody trades. Otherwise, our traders trade all around the clock. That means that in terms of volume it is very large but there are times that there will be less liquidity because the trading is 20 hours instead of being 10 hours.”

The growing number of participants has also tightened the margin of the business. Löwy describes it as the room for mistake. “Your margin of safety is now not what it used to be; the market has become a lot more competitive.”

When he started in the late 1990s, there were only a handful of firms trading high-yield bonds. “Today, you have hundreds of investors that are trying to navigate, to stress high-yielding assets. That means the price has become a lot more competitive. You take a lot more risk than you had to achieve the required returns. When you are trading at 3% to 4% or 5%, there is not much margin for safety. And if tomorrow somebody decides that these bonds should be trading at 10%, well guess what? These bonds are not trading at par anymore, they are trading at 60 cents.”

Löwy feels that where the market is today bears some similarities to the environment 12 years ago. “The fear was not so much to lose money but the fear was not to have a good month when everyone else had a good month.”

He believes that the way the market works and how fund managers are incentivized put them in a position “where they look over their shoulders and they don’t want to have a bad month”. And if there is a major macro incident when everybody loses money, it is okay. “I risk money like everybody else; you can’t blame me for that. But what I don’t want is to miss the boat and I don’t want to witness a market that keeps going up and me not being part of the party.” Löwy says that is a very dangerous market. “That is a market that can easily collapse. And that is the type of environment where we are.” He says some very smart clients have been starting to short some segments of the market in the past 12 months. “But they lost money.”

Löwy is confident though that the firm has the right ingredients to remain competitive and to be able to grow in the coming years. “Because we are very focused in our core expertise in fixed income, we can move fast,” he points out. “That is the big reason why I am sitting in the middle of the trading floor so that I know what’s going on; I can react immediately. People can grab me and have a conversation with me. The reaction time is much shorter. I don’t want to be in an office.”

He says that while the traditional bulge-bracket banks are still fighting between Singapore, London and New York as to who should be doing a trade, SC Löwy is already starting to trade the bond or loan since it does not have to deal with the layers of politics that is the case for much larger organizations.

He says the key for the firm is to balance that by being professional, organized and thorough in what it does so that when clients face it they receive the highest standard of professionalism whether it is when settling a transaction or helping them to figure out a view on an asset.

It does not mean you cut corners, he insists. “You don’t want to cut corners because reputation is even more important for us than for the bulge-bracket. If tomorrow, Goldman, UBS or Deutsche Bank have a big fine and a big problem, it is just a cheque. It does not ruin their reputation as we have seen repeatedly. If we have a similar problem, we can shut the door.”