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BDC Common Stocks: Something’s Happening Here

BDCs:
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NEWS/ANALYSIS/VIEWS

Of course, the BDC Reporter tracks the trends in BDC common stocks in our world famous Market Recap, typically written by the editor early on Saturday morning. We seek to keep close to the changing price direction of the sector as a whole, while also highlighting individual stocks as well. Our conceit is that – given we are at Ground Zero of the BDC Sector watching all 46 public common stocks and much else besides every day – we can get early warning of changes in market temperament and expectations. We may not catch the market wave, but we hope to be paddling not far behind. On Saturday we’ll be back for another edition.

However, we can’t help noting that many of the metrics that we look at at every week end are flashing green, or whatever color is associated with a positive outlook. First, the UBS Exchange Traded Note with the ticker BDCS – which includes most every BDC public stock – has been on an upward run since May 2, 2018, as this chart shows:

According to the chart, BDCS is up 2.6% in what is a relatively sharp upward slope by BDC standards.

This follows weeks and weeks – in advance of BDC Earnings Season – of prices caught in a narrow range as we were commenting on in the Market Recap very recently.

Secondly, the number of BDCs trading within 5% of their 52 Week Lows – a stat we are especially fond of and which we track in our own database – has shrunk substantially.

Just a few weeks ago there were as many as 21 BDCs close to their 52 Week price cliff edge.

As time of writing, there are just 7, a reduction of two thirds.

Less spectacular, but telling: the number of BDCs trading within  10% of their 52 Week Highs has doubled in the last couple of weeks to 14 out of 46 BDCS we track.

Finally, 36 of 46 BDCs are trading ABOVE their 50 Day Moving Average price.

If you include several BDCs that are less than 1% in the red that number is 41 out of 46, the highest proportion in ages.

Why Might This Be ?

We are coming close to the end of BDC earnings season and the overall theme has been – as we reported last week – of good, steady performance across the board.

With one notable exception, which we’ll get to in a minute.

Book values have been either a little higher or a little lower in most every case.

Likewise, earnings have generally been very close to expectations.

Job One

Most important of all – and we’re still digging into the mound of data contained in the filings – credit quality at most every BDC has been unusually good.

Which is not to say that a large proportion of BDCs don’t have credit troubles.

We could offer a list as long as our arm.

However those are the Usual Suspects, which every BDC investor is well aware of.

Same Old

What is notable, though, is that there have been very few NEW troubled credits popping up with the dozens of earnings releases.

Which is presumably the main reason book values have been so stable…

Other Goodies

Then there’s the trend of rising yields brought on by a higher LIBOR and the constant discussion at every Conference Call about the Small Business Credit Availability Act.

With our long term perspective, the BDC Reporter does not expect either factor to ultimately generate increased Return On Equity for BDC shareholders in most cases.

On the contrary.

However, that’s a story for another day.

In The Moment

Here and now, these elements may be contributing to a short or medium term change in market sentiment.

Note that BDCS reached its nadir in 2018 back on March 2, reaching a low of $19.050.

BDCS is now within spitting distance of $20.0, a 4.8% increase.

More than two-thirds of that rise in this tricky way of measuring the BDC Sector’s temperature has come in the last week, as mentioned above.

Not Sticking Our Neck Out

Is this rally sustainable ?

We don’t pretend to know, but we thought we’d bring these inklings of renewed enthusiasm for BDC leveraged lending to our readers attention.

That’s what makes the BDC Reporter unique.

We’re able to review and discuss pressing BDC developments in almost real-time while keeping an eye on the long term.

Exceptional

With that promo out of the way, let’s discuss the Exception To The Rule.

Not invited to the BDC party that’s just getting going is Medley Capital (MCC).

The long under-performing BDC reported very poor IQ 2018 results that included a big drop in recurring earnings and yet another dividend cut.

The quarterly pay-out was reduced from $0.16 to $0.10.

This was discussed in our Dividend Outlook article on May 9, 2018.

Not Good

Unfortunately, the BDC also confessed to new under-performing loans in its portfolio and to worse-than-expected outcomes for existing troubled loans.

Where this ends remains unclear, but MCC is down for a second day in a row after dropping (11%) on the first day.

Here is the lifetime chart of the stock, which provides a stark reminder of what happens when credit underwriting in a BDC is below par.

Quantifying The Loss

To date, in just over 7 years, MCC has had to write off or write down assets equal to nearly half its par equity capital.

On a day when we heard from American Capital Senior Floating Rate (ACSF) that it’s liquidating attention may turn to what the future might hold for this much bigger BDC.

Crystal Ball Time

Our money – figuratively but not yet literally – is on some sort of change in the management of MCC before year’s end.

If the Triangle Capital (TCAP) transaction has taught us anything is that no BDC portfolio is unsalable.

The BDC’s Investment Advisor Medley Management – who apparently have been looking around for an asset manager to step into their shoes but have not been getting the price they want (unverified rumor)- might have to swallow hard and give up the helm.

Valuable

For what it’s worth (and nobody trusts MCC’s book value after a series of reductions) book value is $7.02 after the latest developments and its stock price is nearly half lower at $3.64.

The market cap of MCC is roughly $200mn.

Its most valuable “asset” is probably the $10mn-$15mn a new Investment Advisor might be able to earn in fees if the BDC was “cleaned up” and repositioned.

Very, very roughly speaking that stream of income might be worth $50mn-$100mn to Medley Management and the price a new manager might have to pay to rescue the BDC.

Unfortunately – judging from what happened at the Fifth Street BDCs and Business Development Corporation of America (BDCA) and what almost happened two years ago at TICC Capital (now Oxford Square) – MCC’s shareholders will not be gaining any direct benefit from the potential sale of its management contract.

It’s the sad state of BDC governance that the managers who’ve run the fund into the ground who gain by a sale to a new manager, while long suffering shareholders (if any are left amongst the short term traders who tend to move in after such a drastic drop in value) are left gaining mostly the anticipation that the new Investment Advisor will do better than the one departing.


INVESTMENT DISCLOSURE

We are Long BDCS.

We are considering an investment in MCC.

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