Key Takeaways

  • Nancy Zimmerman launched Bracebridge Capital alongside Gabe Sunshine with early backing from David Swensen, applying relative value models developed during her time at O'Connor & Associates.
  • Position sizing at Bracebridge requires measuring portfolio-wide covariance rather than analyzing isolated trades, forcing opportunities across developed rates, structured credit, corporates, and emerging markets to compete directly for balance sheet capacity.
  • Portfolio survival depends on separating temporary drawdowns from permanent capital impairment, allowing managers with excess liquidity to acquire assets from forced sellers during severe market panics.
  • Counterparty and collateral stress testing at Bracebridge is shaped by historical dislocations, including Long-Term Capital Management in 1998, the 2008 global financial crisis, and COVID-19 in 2020.

Capital Allocation as Forward-Looking Competition

Bracebridge Capital does not allocate capital based on historical returns or static division mandates. Zimmerman structures the portfolio so every trade must continuously justify its claim on balance sheet capacity against competing market dislocations.

As Zimmerman explains, “We build a portfolio on a completely forward-looking basis, trying to get opportunities that we see to take advantage of inefficiencies to compete against each other to have what we hope is the best risk-adjusted return across the portfolio on a forward-looking basis.”

This structure requires analyzing trades through their aggregate portfolio impact rather than standalone payoff profiles. “When we think about position sizing, we got to think about how these things correlate to other things and aggregate rather than thinking that something is just one position,” Zimmerman notes. Sizing a position depends on how its collateral, borrowing terms, and liquidity demands interact with the rest of the book when volatility spikes.

Surviving Drawdowns to Buy Panicked Assets

Relative value investing requires accepting that external market pricing drives capital deployment, not manager preferences. Zimmerman summarizes the dynamic plainly: “The opportunity set has to be in charge. We don't stock the lake. We just fish here.”

Taking advantage of those fish requires maintaining enough liquidity to withstand market shocks without liquidating assets at the bottom. Drawing on market panics across multiple decades, Zimmerman emphasizes the distinction between mark-to-market declines and permanent losses:

“Every crisis teaches and reinforces that you want to stress test. You want to think carefully about what factors could cause a drawdown in your portfolio. You want to think hard about what's the difference between a drawdown and a capital impairment...”

Surviving a drawdown without forced selling allows a firm to provide balance sheet capacity when other participants face margin calls. In March 2020, severe dislocation in sovereign debt markets created extreme pricing anomalies. “In the middle of COVID, we were buying Treasuries in escrow at $0.80 on the dollar,” Zimmerman recalls. “Things happen. You want to be able to move your portfolio around so you can take advantage of those things.”

Why It Matters

Relative value and arbitrage strategies only produce downside protection if portfolio construction prioritizes counterparty and collateral survival over yield optimization. When volatility forces leveraged market participants into liquidation, capital allocators with disciplined covariance models and unencumbered balance sheet capacity can acquire premier assets at deep structural discounts.