In corporate finance, distressed securities are securities over companies or government entities that are experiencing financial or operational distress, default, or are under bankruptcy.[1] As far as debt securities, this is called distressed debt. Purchasing or holding such distressed-debt creates significant risk due to the possibility that bankruptcy may render such securities worthless (zero recovery).[2]
The deliberate investment in distressed securities as a strategy, while potentially lucrative, has a significant level of risk as the securities may become worthless. To do so requires significant levels of resources and expertise to analyze each instrument and assess its position in an issuer's capital structure along with the likelihood of ultimate recovery.[3] Distressed securities tend to trade at substantial discounts to their intrinsic or par value[1] and are therefore considered to be below investment grade.[1] This usually limits the number of potential investors to large institutional investors—such as hedge funds, private equity firms, investment banks, and specialist investment firms such as vulture funds.[2]
In 2012, Edward Altman, a professor emeritus at the NYU Stern School of Business, and an expert on bankruptcy theory, estimated that there were "more than 200 financial institutions investing between $350–400 billion in the distressed debt market in the United States".[4]