BDC Common Stocks Market Recap: Week Ended March 30, 2018Premium Free
BDC Common Stocks
Back In Line
The holiday shortened week – which also represented the end of the first quarter of 2018 – was notable for what did not happen.
Last week, the BDC Sector – as measured by the UBS Exchange Traded Note, which includes most every public issue, with the ticker BDCS – diverged from the main stock market indices.
This week, BDCS fell back in line, with BDCS in the middle of the pack, as this chart shows.
(We note that in all of March, BDCS outperformed the other indices, up 2.17% versus losses between (2.9%) and (3.7%) for the three major stock indices.
However, we’re not bringing out the champagne – which has been chilling since this time last year – as BDCS trails the indices on a YTD basis and a 12 month basis.
This second 12 month chart illustrates the latter point very clearly).
We might have expected BDCS – and BDC stock prices generally – to jump up on the unexpected news (now only a few days old) of the new leverage rules implemented in the dead of the night by Congress.
First Out OF The Blocks
In fact, on Friday we heard of the first BDC – with little fanfare and no prior discussion with shareholders – adopting the new lower asset coverage afforded by the just passed legislation.
This was done by FS Investments (FSIC), whose parent has been one of the most vociferous proponents of having the right to double BDC leverage if deemed necessary.
Not much was said in the SEC filing, which we can essentially quote in full without taking up too much space:
On March 29, 2018, the board of directors (the “Board”) of FS Investment Corporation (the “Company”), including a “required majority” (as such term is defined in Section 57(o) of the Investment Company Act of 1940, as amended (the “1940 Act”)) of the Board, approved the modified asset coverage requirements set forth in Section 61(a)(2) of the 1940 Act, as amended by the Small Business Credit Availability Act. As a result, the Company’s asset coverage requirements for senior securities will be changed from 200% to 150%, effective as of March 29, 2019.
In theory, FSIC can borrow more than an additional $1.7bn and still fall within the BDC asset coverage rules.
If the rest of the non-traded BDC funds managed by FS Investments and by its new partner KKR follow suit we could see a potential $10bn plus of assets and borrowing being added to a BDC industry with a reported $80bn of assets under management.
With much more to come as other BDCs follow suit.
Based on who was hanging around the halls of Congress lobbying for change, we expect Ares Capital (ARCC), Apollo Investment (AINV), Main Street Capital (MAIN) and -potentially – the two Oaktree Capital BDCs (OCSL and OCSI) to follow suit.
Also intrigued by the prospect of adding additional are Newtek Business Services (NEWT) and Prospect Capital (PSEC).
We’ll flesh out the list and the approaches taken in the weeks ahead.
Change is coming even if slipped through and announced on a holiday by only a filing and without any press release.
Nonetheless, BDC prices on the week did not reflect much enthusiasm for supposedly higher earnings from the new legislation.
BDCS ended at $19.79.
That’s up 1.1% from the prior week, but a very minor move to the upside.
That’s confirmed by the rest of the metrics we muddle around with every week.
Only 9 BDCs were up in price on the week.
Outside of super minnow OHA Investment (OHAI), which climbed 10.2% to $1.40, no BDC stock increased 3% or more, which is our historic cut-off percentage.
By contrast, 10 BDCs dropped (3%) or more on the week, led by WHF (7.2%), AINV (7.0%) and MRCC (5.0%).
(The BDC Reporter offered up an upbeat assessment of WHF during the week, but the stock price was battered anyway).
According to Seeking Alpha data, only 11 BDCs ended the week trading above their 50 Day Moving Average versus 16 last week.
Looking at the 200 Day Moving Average, we counted only 4 in positive territory.
Using our own data of how many BDCs are trading within 5% of their 52 Week Lows, the number increased by one from 16 to 17.
Of late there have been a raft of upbeat assessments of the outlook for the BDC Sector from commentators and analysts. Here’s one example from BDC Buzz.
They point to higher LIBOR rates (worth a story in itself as the base rate is shooting up at a pace not seen in a decade); better-than-expected IVQ 2017 results (which we’ve noted for weeks) and the (in)famous new BDC rules.
There have also been a series of individual price target upgrades by investment bankers.
So many in fact, the BDC Reporter’s Daily News Table had to give up trying to record each one.
Unfortunately – and for a market that is famously always looking ahead and round the next corner – BDC price trends are at variance with this drumbeat of optimism which we’ve been hearing all year.
In fact, there are elements that cause us profound concern.
As noted above, BDCS is down YTD. By (4.67%) as of Friday March 30, but has been more than (8%) down intra-quarter in price terms.
The Wells Fargo BDC Index, which provides a Total Return, is off (2.75%) YTD and (8.3%) over 12 months.
If you count how many BDCs are up in price over their level last year, you’ll only find 4 out of 45 tracked.
Of course, Past is not prologue and the 1 Month Wells Fargo Index is up an encouraging 2.0%.
Turning Point ?
Maybe we’ve already hit the low point (around March 1, 2018) and we’re headed inexorably upward ?
It’s possible and we’ve been called a “curmudgeon” and “overly critical” of late by readers, so we don’t want to add to the invective by taking a different tack.
Crystal Balls Are Notoriously Unreliable
On the other hand when in May 2017 some commentators were waxing lyrically about expectations that the BDC Sector would outperform the S&P on the year (as it did in 2016), the trends suggested otherwise.
The chart below shows what actually happened. (BDCS is the dark blue dropping downward the S&P 500 index is the light blue line headed skyward).
This will not be New News to our regular readers, but we’re disturbed mostly by the lack of price enthusiasm showing up in the best performing BDCs despite all the good prospects ahead.
For example, MAIN is trading above book (as always !), but (12%) below its 52 Week High. In fact, MAIN has not been over $40.0 a share all year despite increasing its monthly distribution (as always !).
Another well deserved investor favorite TPG Specialty (TSLX) is (18%) off its highest level. Investors who bought in at the top will have to wait through 2 years of distributions to get to break-even.
Best Of The Best
We could go on but we’ll point out that we keep a list of the Best Performing BDCs (11 names) in terms of fundamental performance.
9 of the 11 are trading within 10% of their 52 Week Lows and are (9%) to (29%) off their 52 Week Highs.
7 of the 11 are trading below book value.
What It Going To Take
For the BDC Reporter to be convinced that investors are flowing back into the BDC Sector we’ll need to see more enthusiasm for these BDC Aristocrats going forward.
The BDC Reporter has been writing these Market Recaps for years now as a way of keeping our hand on the pulse of the market.
“They” say you can’t call bottoms and tops, but it’s worth paying close attention.
At this stage, though, we are just undecided.
We could go up, but we could as easily be headed down.
If we had to choose, though, we’d be erring towards Down rather than Up.
Unscientific as it to say so, the BDC Reporter still believes that market sentiment towards credit investments has soured (even as more funds are formed every week and more capital raised, or maybe because of it).
Sentiment tends to remain unchanged for relatively long periods, but inflection points obviously do occur.
We’re just not yet convinced that all the factors being touted as favorable to the BDC Sector will be sufficient to change the more conservative and skeptical market sentiment in evidence since March 2017.
Week By Week
Like Keynes and most everybody else we reserve the right to change our minds as the facts change.
“What do you do, Sir ?”. (One of our favorite quotes).
Long Way To Go In Either Case
If there’s going to be a BDC Rally investors shouldn’t worry too much about missing out at this stage.
Prices would have to move up 20% from here to match 2017’s market high.
For what’s worth that’s an almost equal distance in percentage terms for the All Time Low (since 2011) that BDCS reached in February 2016.
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