Solus Says It May Buy Hovnanian Bonds to Cut Loss From CDS

(Bloomberg) -- Hedge fund Solus Alternative Asset Management is considering an escalation in its battle with Blackstone Group LP over a homebuilder’s controversial debt refinancing.

After suing Blackstone’s GSO credit unit and Hovnanian Enterprises Inc. for engineering a credit-default swaps payout that’s leaving Solus with steep losses, the hedge fund’s CEO, Chris Pucillo, said in a Bloomberg Television interview that he may just buy the builder’s bonds to limit his losses and cut Blackstone’s profit.

It’s among the options that Pucillo said his firm is looking at after GSO orchestrated the refinancing last year, in which Hovnanian would take steps to trigger a payout on $333 million of CDS GSO had bought before the deal. Solus was among those on the opposite side of that trade, selling CDS that insured against a default.

The ultimate size of the CDS payout would be tied to the price set in an auction of Hovnanian’s bonds. So by buying the debt, prices could be driven up, reducing the amount Solus has to pay to CDS sellers including GSO.

“We are discussing lots of different options,” Pucillo said. “That would be one of the ways to have the CDS clear at a higher price.”

Solus, which sold CDS protecting against a Hovnanian default, has sued the homebuilder and GSO, which would profit because it bought CDS ahead of the refinancing deal. Solus is alleging that the GSO deal amounts to fraud and manipulation.

Pucillo said GSO’s behavior in this trade is "unethical" and it feels like a conspiracy.

A spokesman for Blackstone said the deal “was in the best interest” of Hovnanian and its investors. “The transaction was fully within the well-defined, long-established rules of this market and – as we’ve said before – their claims are completely without merit,” the spokesman said in an emailed statement.

As part of its deal, GSO offered the ailing New Jersey homebuilder cheap, long-term debt. In exchange, Hovnanian agreed to take steps that would trigger a credit event on about $333 million of CDS that GSO had bought on the builder. That prompted protests from Solus and other firms that had sold the insurance-like instruments, including Goldman Sachs Group Inc.

Pucillo said more such trades will be done if the International Swaps & Derivatives Association doesn’t take action to clarify the rules. ISDA, an industry group that sets standards in the market, said in a statement today that it will consult with market participants and consider whether to change documentation governing the market. There are about $1.5 trillion of net wagers outstanding in the CDS market globally, data compiled by ISDA show.

"If ISDA doesn’t make a clarification for the existing language, then it’s game on for any company or any market participant to continue to do this," Pucillo said.

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