Why Are Traders Buying Bankrupt Stocks Like Hertz? (Explained)

Hey guys, Eddie here with another video. Happy Saturday! Glad you guys are loving the videos on the Saturday to complement the morning briefings. Really cool to see nearly 10,000 views on the, the US-China video, uh, and the Why Stock Markets Are Rallying video did really well as well. So I really hope you're appreciating the effort and us as an Amplify team collective putting out all this content for you. We enjoy doing it, so please leave a comment below if you really— if you're enjoying it, if you didn't like anything, uh, any recommendations for the future, because it helps us plan our videos and things like that. Um, but today we're going to be discussing why traders, traders, uh, are buying bankrupt stocks, uh, like Hertz. So essentially Bankruptcy used to be a really bad thing for a company, as you can imagine, meaning they're literally bankrupt. But nowadays, in the current market environment, bankruptcy has been seen as a really positive thing in terms of retail taking a punt on shares that have been severely depressed. Like Hertz, it's down around 83% year to date. And we'll talk about who lost a lot of money. Um, in a Hertz position, nearly $2 billion. Um, but at the moment, retail particularly are taking a punt on these Hertz shares and essentially trying to sell this, sell these shares to someone else at a higher price later on. Um, so Hertz is literally bankrupt, just like firms like JCPenney. And obviously the coronavirus had something to do with this, but essentially it's now trying to sell $1 billion in equity, okay, to, uh, punters, investors, traders, um, to finance the debt holders, the creditors that they cannot now afford to pay. So Jefferies, the investment bank, is now leading, uh, this capital raise, and they've essentially turned the bankruptcy process, or the traditional one, completely on its head. So instead of raising capital money, uh, for a bankrupt entity, uh, by selling the most secured form of debt. Um, so this is the most senior tranche. Um, this is secured by assets of the company. So when a company goes bankrupt, uh, there are assets that are obviously worth something. They're actually going to the other end of the capital structure, uh, and they're gonna help us raise $1 billion in worthless equity. Essentially, it's worthless stock for equity holders to buy. And I just want to start, um, this kind of video off with, um, Jay Powell's quote that I read out last week in the video. Jay Powell, October 23rd, 2012: I think we're actually at the point of encouraging risk-taking. Investors really do understand now that we will be there to prevent serious losses. And obviously this is ironic Like I talked about last week, that now we're in a current market environment, and this is definitely fueled by the Federal Reserve and the kind of QE and the extraordinary measures they've taken, to the point now that speculators, gamblers, are now taking huge risk and literally gambling rather than investing, and with the potential of huge returns. of course, but really betting on names that are literally bankrupt. So I wrote this post on LinkedIn, and if you don't follow me, I'll put my link in the description, um, below. Um, that's where I'm most active, and I write a lot of posts, um, to do with current market trends, both micro and macro. Um, I'm also on Twitter as well, uh, Eddie Donmez. So again, my handle's below. I started to be a bit more active on Twitter, and occasionally I say something, uh, interesting. So worth a follow for that one interesting tweet I do every week. And this is a quote and a post I did on LinkedIn: as long as the music's playing, you've got to get up and dance, but when it stops, obviously things get complicated. So what I do on a really day-to-day basis is I actually am involved in Amplify Trading, but I'm a financial trainer, so I train on a range of different things. And this week we had our first summer intake in for the June 8th start date. So if you're a student, go and check that out below, amplifiedtrading.com/students. Um, but I've run a few simulations, so an equity, uh, research simulation, an M&A simulation, sales and trading, lots of different things. But actually what I've been doing this week is teaching about fundamental analysis, um, and it couldn't have come obviously at a more interesting time. So in the current market climate Lots of stocks, particularly those growth names, those tech names like Zoom, Alphabet, Amazon, Facebook— you know the drill by now— they're completely disconnected from the world and what one would consider to be their intrinsic value. Okay, when you're producing a financial model, your job is to find an intrinsic value, and that obviously may differ from what the market is pricing it at. Um, so it's worth at this point in time, um, like I put in the post, reminding yourself that markets can be extremely irrational, uh, and capital markets, like we've seen especially from this announcement, um, are not perfect. But this euphoria, uh, that we're seeing at the moment, it just can't last forever. There is a point where the music stops and things will get complicated. And we had, uh, a kind of flavor of that this week where the most major indices were down 6%. And this was mainly a bit of doom and gloom from the Federal Reserve and their FOMC meeting, but also the real fear of the second wave that is now starting to rear its head in Texas, Arkansas, and again in China. They're now starting to report cases. There's some discussion of, is this a second wave or is this just a continuation of the first wave. But really, markets are completely disconnected from the fundamentals. So names like Hertz, JCPenney, they're bankrupt. And as you can see by this chart, they filed for a Chapter 11 bankruptcy on trading on March 22nd. Their share price correctly fell from around $3 to around 40 cents. And then since then They've raised— they, uh, increased, and punters were going long on the stock, and it reached around $6 a share. Um, so huge increase, uh, huge gains to be made there. Um, and just, it's worth saying that, um, obviously they make no money and they can't pay their creditors, but companies more famously like Tesla, HubSpot, DocuSign, AppFolio, they're trading at close to 300 times 2021 forward earnings. And it's insane to think about when you're forecasting or you're looking at a forward PE multiple or something like that when there's so much uncertainty about coronavirus and the second wave lockdown, things like that. But I think it's worth noting that as long as you recognize that this is the current state of play and markets are extremely irrational, then that's okay, you know, as long as you recognize that. And this kind of growth trade versus value has absolutely trounced value for the last 10 years since the crisis. And we've seen some cyclicals starting to participate, but this growth outperformance looks to continue. Of course, this growth is like the Zooms and Googles, not the Hertz, but it does beg the question, who's going to be left holding the bag when the party's over? And the music stops, uh, and then reality steps in. So it's most likely at the end of this video you understand that more, but it's going to be the retail players that are just taking punts on these bankrupt names. So Hertz looks at the market right now and all it sees is these irrational traders that are willing to buy this stock, um, and raise equity, um, for their restructuring process and actually what they're going to do is raise this equity to pay off these creditors that have the most senior secured debt. But this equity is worthless, or most likely it's going to be worthless. So Hertz, what do they do? They're essentially— they provide airport, you know, vehicle rental, leasing services, US rental car, international rental car, all of the operations. And they are down 83%. Um, year to date. And they have now won this approval, uh, court approval to try and sell $1 billion worth of stock to these day traders. And it's kind of eerily like, um, the fraud, uh, the Enron, but also more recently like Moderna, after pumping their stock price, then followed on with an equity offering And obviously the vaccine wasn't— was only on 8 people and wasn't as successful as they forecasted. Yet their CEO and board members made millions, or whoever was selling those Moderna shares. But Judge Mary Woolruth, uh, and I think she's definitely the biggest culprit here, she has now ruled that Hertz can go ahead with this offering. Um, and it could take in as much as $1 billion, uh, in this stock raise, um, according to the underwriter, which like I referred to, uh, is Jefferies. And Jefferies are going to make 3% on this offering, um, if it finds enough, um, equity investors, mainly from Robinhood or retail at the moment, uh, by selling this, uh, equity. But Hertz, uh, confidently would have to make a disclosure in any prospectus that goes along with this kind of offering with debt or equity for this common stock, highlighting that an investment in Hertz common stock entails, uh, significant risks, uh, okay, yeah, including the risk that the common stock could be ultimately be worthless. So it does beg the question, is this ethical at all? Uh, and I would argue that, uh, in my opinion, the judge that has passed this He is not protecting, uh, retail investors at all. Um, the more sophisticated credit, uh, creditors, debt holders are basically— the money is going to flow ironically in the Robinhood scenario from these equity investors to these creditors, uh, when or if this equity ultimately becomes, uh, worthless. Um, so why is Jefferies trying to propose this deal, essentially, um, because the market prices have obviously reflected, um, the point where they could raise new equity, um, and the volumes in this common stock, um, have skyrocketed really since they, uh, announced, um, this bankruptcy, um, and the, the, the way they're going to raise this capital is far superior than any, uh, debtor-in-possession financing and this is a more confusing term, but unlike this debtor in possession financing, this common stock issuance, this would not issue any restrictive covenants. And covenants are essentially some legal kind of papers that go along with the creditors and things like that, where, you know, once they issue this debt security, the liquidity ratio of this company may not go over X times, or there's certain things that debt holders having this covenant that would restrict the company from raising more debt and things like that. So it wouldn't— raising equity wouldn't impair any creditors, um, or the, or the debt holders. And there's no obviously repayment obligations, um, unlike debt. It's a legal contract, you have to repay this debt, whereas stock issuance obviously, um, is at the bottom of the capital structure and there's no legal requirement to pay back equity holders. So something like this has never been done before, um, just because in more rational times when a company is bankrupt, that common stock is worthless, right? Um, but in the irrational time we are in, this may have some value, or at least, uh, retail investors can make a quick punt on this. Um, it's worth kind of just distinguishing between the two forms of bankruptcy. So you have a Chapter 11, and this is essentially a reorganization of the capital structure, and it's essentially asking the chance to recover while it makes a reorganization of the capital structure. So think debt, equity, things like that. So if the company does survive, and it is possible, your shares may be worth something. But the company can cancel your existing shares, uh, and obviously that renders them worthless. So definitely, if you're going to take a punt on anything like this, um, know the risks. If you file a Chapter 7— and this is a liquidation, this is different from a Chapter 11 reorganization— the company is finito, and, and so are your shares. Your com— your common stock is worth nothing. Once that company enters liquidation, because you as an equity holder are at the bottom of the capital structure. And I'll kind of talk about this visually, um, just later on. Okay, and after all, after the company's filed bankruptcy, it's filed it for a reason, right? It can't meet its interest payments to the most senior debt holders. And I've actually got a finite value later in the video of how much debt is actually outstanding already. Okay, um, so this also means that unless all this existing debt is repaid in full, um, there is some unprecedented agreement essentially between the equity tranche, uh, and the, and the debtors. Um, the preposition equity is essentially worthless. Um, so let's go into the capital structure. So, uh, after a quick look, Hertz have $16.4 billion in debt outstanding. Okay, so these are the senior secured debt holders, deposits, uh, essentially the top of the credit structure, uh, the capital structure. And these essentially are safer than holding equity. So if we take a step back, there's less credit risk if you invest in a debt security. You get a lower coupon or a rate of return from that debt but it's safer. Okay, it's secured in a senior secured, uh, debt instrument, uh, by assets. Okay, so you are most likely going to get paid back. And then as you go down the capital structure, you see senior unsecured debt, which is senior to the equity, uh, and the preferred equity, but it's not secured by assets. Um, so obviously in an event of a bankruptcy, and as you go down the capital structure Just know that as a common equity holder, you are at the bottom of the capital structure. You are last to get paid in the event of a bankruptcy. So when you're investing in this type of stuff, definitely know and educate yourself. And obviously through Amplify Trading, we provide training on this. But do your reading, do your research, know the risk, because if it does go wrong, you, you know, you would have have liked to have known this prior to, to this mistake. So Robinhood activity, we have to talk about this. So when mainly on Monday the markets hit an absolute, you know, blow-off top, um, and the Hertz shares went to $6 and the market cap for a bankrupt entity was around $900 million, and it's around, it's up around 400% on the week. So Robinhood is essentially this retail trading platform mainly in America. So for the UK listeners, it's a bit like an IG or Trading 212. Um, and they report, or you can go on Robinhood Tracker and see the names that are most traded, essentially, in popularity increases or decreases to the positions. So you can see at the top, uh, Nikola, which is the electric vehicle Tesla-like company that makes no revenue, uh, and Obviously speculators were betting on this becoming the next Tesla, but they made no money. Uh, Hertz again, number 2, uh, 75,826 increase in shares over the last week or holdings. Um, so they're up 400% in the week. So this is why people are trading this. There are potential gains there, of course, um, but it is, uh, with not without its risks. But essentially now the common stock is worthless. So 151,000, I think, 800 users decided to go long on this insolvent company. Carl Icahn, obviously made famous by buying a lot of US equities after the Trump victory when everyone else was selling off, selling their equity positions, he's lost $2 $2 billion, uh, on Hertz, and he was holding it from a long time before these kind of retail traders got involved, um, and he cut his position and lost $2 billion. So there's obviously lots of jokes, uh, going around Twitter, um, saying that, you know, people like Carl Icahn and Warren Buffett are idiots, um, and this game is easy, and you'll know who I'm talking about. Um, but obviously just remember people like Warren Buffett and Carl Icahn are hugely successful. Um, Warren Buffett has made over $85 billion, uh, in his career. Um, so don't count, uh, these guys out just yet, uh, just after you've had a few good days. So legends in the industry. Um, but he obviously took a $2 billion, uh, loss, uh, on Hertz. Looking at the financials at a really high level, their total debt-to-equity ratio is 1,381%, a higher ratio being worse, uh, a long-term debt-to-equity ratio of 1,260%, uh, higher being worse again, and earnings for interest, uh, and tax over an interest expense, or an interest coverage ratio of 0.7 times. So these are the financials that really bring it down to earth. They can't they can only cover their interest payments at 0.7 times. Their total debt to EBITDA, 11.7 times. Their EBIT minus CapEx divided by interest expense is not meaningful. Okay, so that really, um, meaning it's below zero. So the financials are poor. Um, just remember when, if you are investing in this. So whose fault is this? And this is a tweet from my account, that's my handle. Um, if you are interested. Um, I've basically argued that the judge is mainly at fault here, um, and I don't believe it's ethical, and they should be protecting retail investors, um, that are unsophisticated, um, because the money is simply going to flow from these retail investors, uh, to the creditors, which are more sophisticated investors. Um, sure, whenever you buy an equity or you set up an account, you tick a box saying you understand the risk of investing, but unfortunately I don't think people are reading this type of thing. And, um, the next slide really says it all, uh, and there are huge potential losses. So of course, whenever you're looking at social media and stuff, you only see the winners, um, and if you are trading without proper risk management tools, you can obviously lose huge amounts of money. So just be aware of that. Um, but whose fault is this? Obviously the coronavirus has exacerbated the situation. Everyone's in lockdown, lockdown, everyone's bored. Uh, you know, stock markets are making new highs, rightly or wrongly, you make up your own mind. Uh, price discovery has just completely been distorted, uh, really by, I think, the Federal Reserve. and this kind of fear of missing out, uh, bubble and these irrational, uh, feverish retail investors, uh, just jumping on, uh, this asset bubble that the Federal Reserve by growing their balance sheet, um, has created. And I think Jefferies are just, you know, they're just advisors in this transaction. Hertz, again, um, could argue that they are the, um, a bad party in this. But really, I think the judge that has passed this should be, you know, should be looked at. Um, but it is this retail participation, uh, and they should be protected in my opinion. So what happens next? And this is again the funny meme from WallStreetBets. Um, no institutional investors are going to touch this new equity offering, but obviously Jefferies and Hertz, they all know that's not their audience, it's these retail investors. Um, so just a word of warning, you know, be careful, uh, if you are taking a punt on any, any of these things. So I hope you enjoyed this video, um, slightly different to usual, looking at a single stock. There are others as well. Um, if you like this video, leave your comments below, really appreciate it. Obviously it takes some time to make, uh, on a Saturday. Um, so if you enjoy it, if you want to see anything else, great. If you haven't subscribed to the channel already do so below. And obviously take a, take a look out at the website if you were interested in anything else that Amplify Trading are doing. But take care, have a lovely weekend. I hope you enjoyed the video.