mp3bu

Distressed investors buy the senior debt and short the equity to drive a restructuring whereby they can convert the debt to equity at nil prices.

However, if eg. due to market risk, event risk, economy improving etc. - "prospects improve", basically this trade will move completely against you.

Waterfall is relevant in restructuring process, in-court or out-of-court. But without a restructuring, stock is a much higher beta vs. senior or junior claims.

I guess the language here is "prospects improving". I'm not debating the short stock / long debt trade, but its success is subject to the event of a restructuring, not "prospects improving" for the company.