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Special Situation Strategy: 3 Watch List Opportunities

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PREAMBLE

The BDC Reporter invests for its own account only in fixed income issues and a small list of BDC common stocks that we’ve identified as Long Term Income candidates. However, we do consider investments  in a wide range of BDCs for the short term as part of our Special Situation strategy.  The goal is to identify BDCs where there is a major controversy amongst investors about one or more aspects of its future performance. We invest when we have a view as to what might occur, and when the price is right. That will allow us to generate a short term gain if our calculated guess – typically based on our research and ten year familiarity with the sector – turns out to be right. Of course, we are often wrong or we do not act quickly enough when the opportunity presents itself or act too late.  On the other hand, when we are right and/or lucky we can – and do – book a sizable gain in percentage terms , and usually in a brief period as most of our purchases are made with a short anticipated hold period. That typically runs 1-3 months, but can be shorter or longer. 


WATCH LIST 

However, before we make any investment we identify prospective BDC investment candidates on our Watch List. That allows us to focus – in the hurly burly of 46 different BDCs – on where the short term opportunity might be.  Currently, we have 16 BDC names on our Watch List, of which we are invested in 3 (KCAP, TCAP and ABDC).

However, after our daily trawl through the News Of The Day,  several other opportunities may be coming to the fore. All the BDCs involved are already on our Watch List, but new developments may create a buying opportunity in the days and weeks ahead. As part of our dialogue with our Premium subscribers, we are mentioning these POTENTIAL opportunities that we might invest in. As always, we offer this information only to illustrate our own investment approach and not as a recommendation. Every reader should make their own assessment.

CAPITALA FINANCE (CPTA)

As we’ve been projecting for months – and as discussed a few hours ago in a post – CPTA has undertaken a major cut to its distribution. The reduction – based on what had happened to the stock price – was much anticipated. We had expected the stock price might actually increase once the news was out. In fact, “clever” speculators bid up the price in the hours before the dividend announcement on the expectation of  no dividend cut or a milder one that occurred. The result in early hours of trading on Tuesday October 3rd has been a big drop in the price. As we write this CPTA is down nearly (8%), and is below the level prior to the investors beginning their betting. Should the tumble in CPTA’s price become a panic, we’ll be considering a Buy. (We undertook a similar purchase, followed shortly by a profitable sale, when CPTA’s stock price fell out of bed in August).  Of course, as we’ve said ourselves, the problem is that estimating just how bad CPTA’s credit problems are and what the impact of its newly found commitment to making safer loans (as mentioned in the press release) is going to be is very hard. Nonetheless, if CPTA’s drop continues and reaches new YTD lows, we may make a purchase.  The BDC has seen this train coming for some time and has taken a number of pre-emptive measures (including paying down its Revolver) which should put some bottom under the price. However, at the current price – and with so many question marks – CPTA is not an attractive buy.

FIFTH STREET FINANCE (FSC) AND FIFTH STREET SENIOR FLOATING RATE (FSFR)

As the countdown to the day when Oaktree Capital takes over the management of FSC and FSFR gets closer, both the stocks have been climbing in price. However – as we learned from multiple filings at Fifth Street Asset Management and the two BDcs, there are also some big sellers waiting to “get out”. In fact, FSAM has joined Leonard Tannenbaum in setting up pre-determined 105b-1 Plans to sell large amounts of FSC and FSFR shares starting two days after the Oaktree take-over occurs. Some insiders are not waiting for the handover. Director Richard Berman has just sold yesterday a very large position (40% of his entire holdings) in FSC and a more modest portion of his share of FSFR. These sales might get lost in the upward market enthusiasm brought on by the change of managers. Or we might see a short term drop in one or both BDC’s stock price in the weeks ahead as more and more shares get dumped by the former insiders. Oaktree has not promised to put in any mechanisms to support the stock price (as has Goldman Sachs BDC where it’s fund is concerned), so shareholders should not count on support from that source. Based on the current price of both FSC and FSFR, we’re far from seeing any bargains, but we’ll be following stock price changes like a hawk in the weeks ahead.


IN OTHER BUSINESS…

We are removing TCP Capital (TCPC) from the Watch List. A few days ago the stock price – which has been high as a kite for eons- started to drop sharply. On September 11, 2017 TCPC was closing at a YTD low of $15.89, not far above book value and closing in on a 1 year low. The BDC Reporter’s antenna went up. However, so has the price in recent days. So we’ll be removing TCPC from the Watch List, bringing the number of stocks we are watching to 15.

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