BDC FIXED INCOME

Memorable

This was the week that will remain seared in the memory of BDC Fixed Income investors as for the first time prices really fell out of bed.

In the first three weeks of the Covid-19 crisis, the median price of the public BDC debt we track held up well even as common stocks of every stripe tumbled.

All that changed in mid-week as just about every debt issue out there fell sharply and fast.

New Standard

The median price of the BDC Fixed Income universe dropped to a new low – both for this crisis and all preceding ones since 2012.

According to our data, the median price fell to $23.83.

A week before we were at $25.40 on a median basis.

That’s a (6.2%) drop in just 5 days.

Comparing & Contrasting

From the height of $25.75 at the beginning of 2020, the BDC Fixed Income sector is down by (7.5%).

Relative to the BDC common stock sector, which is off (26.2%) over the same time period that’s still a favorable result.

However, that’s a huge drop by the historical standards of BDC debt, and a shock to many investors and market observers.

Not Entirely Unexpected

The BDC Reporter, though, had anticipated such a move might be in the works.

This is part of what we wrote just last week, based on our prior experience in these treacherous market conditions:

In our BDC Common Stock Market Recap we fretted that BDC shareholders may be too optimistic about the prospects for the sector and prices may yet drop sharply.

Despite those (4%) down days, we’ve not yet witnessed the true panic that grips a market – and the BDC Reporter – when the outlook irremediably darkens.

Should that occur – and it’s our duty to consider such unpalatable possibilities – we worry that BDC debt prices may not maintain the stiff upper lip we’ve witnessed so far.

We remember back in 2018, and even more in 2016, that debt investors – after a long period of being unfazed by the ongoing market downturn – suddenly lost their nerve and began to bail from their positions.

The sell-off in debt never matched what was happening in the common stock arena but was material.

Our worst fears were realized only a few days after we wrote about them.

Metrics

That left no BDC debt issues trading at $26.00 or over, versus 14 a month ago.

In fact, only three issues closed out the week trading above par, with the rest (39 issues) below.

The sub-par BDC issues ranged in price from $19.00 –  (24%) below par – to $24.97.

Roll Call

As you might have expected most of the very worst performing issues that were at the bottom of the price table in earlier weeks but at lower absolute prices.

Lowest of the low was OFS Capital’s (OFS) Baby Bond with the ticker OFSSI.

Also down there in the nether regions were Baby Bonds of Capitala Group (CPTA); Great Elm Corporation (GECC) and Oxford Square (OXSQ).

As you might imagine these are also some of the worst performing common stocks as well.

Categorization

If we were to break down under-performing BDC debt in correction territory (10%-20%) down and in bear territory (20% plus), all but OSSI would be in the former.

We wonder if debt investors are seriously worried that the debt issues sharply sold off are truly in danger of not being repaid in time and in full.

The BDC Reporter has its doubts because the OFS common stock jumped 23% on Friday March 13.

Less spectacular was a 1.2% increase at GECC and a drop at CPTA, but which remains priced above its 52 week low.

Reasonableness Test

Nonetheless, there were some very spectacular price drops across the whole group intra-week that must have tried investors souls.

The BDC Reporter would be the first to say that it’s too early to say if BDC economics have changed so much as to make full repayment of unsecured debt obligations unlikely.

Nonetheless, we couldn’t help undertaking some pro-forma calculations based on BDCs latest financial statements.

For example, at OFS ($178mn) of assets at FMV would have to written down or written off before portfolio assets and cash did not cover all debt outstanding.

That represents a third of investment assets/cash.

By comparison, in its entire history to date OFS has booked balance sheet losses of one kind or another of just ($21mn).

Will losses increase by over 8X ?

Belt And Suspenders

It’s possible, but unlikely, based on our own company by company analysis of the latest portfolio.

OFFSI yields 7.8% at its current price and sports a 32% upside, but you might have to wait till 2026 when the Baby Bond matures, or 10/31/2021 when the earliest redemption is allowed.

There are similar “bargains” (or is it “traps”) amongst many of the BDC debt issues in correction mode.

The BDC Reporter will make every effort to update the BDC Fixed Income Table with the prices of each of the 42 issues we track as of Friday so readers can see for themselves.

There are no sure things in the Covid-19 world, but the BDC Fixed Income debt may seem like a better risk-return than the common stocks of the 6 BDCs represented in correction territory for some investors.

Gone

In this very, very busy in the market Oaktree Specialty Lending (OCSL) as previously announced redeemed its Baby Bond with the ticker OCSLL.

Just 11 days before OCSL called in its Baby Bond with the ticker OSLE.

We’d guess that there won’t be any new capital markets activity – either to issue or redeem unsecured BDC debt – in the weeks ahead given the market turmoil.

However, the already announced part redemptions of MVC Capital (MVC) and Capital Southwest’s (CSWC) Baby Bonds on March 26 and April 3 will continue to reduce the dollar value of tradable BDC Fixed Income.

Nonetheless, the number of BDC public debt issuers remains high at 25 and there are 42 issues still out there.

(This does not include any InterNotes from BDCs like Crescent Capital; Hercules Capital and Prospect Capital).

Looking Ahead

We are writing this on Sunday evening, after the Fed slashed rates and launched a new QE, but with the stock futures already sharply down and tripping the triggers.

The most likely outcome for BDC Fixed Income prices is more price pressure in the days ahead.

However, the nature of the segment has changed thanks to the drastically lower prices on some issues; attracting “distressed debt” investors looking for capital appreciation.

That’s what may have happened at the worst performing BDC – Medley Capital (MCC)- whose two Baby Bonds (MCV and MCX) rose 12% and 7% intra-week after paying out their dividend.

This may put a bottom under some of the lowest debt prices.

Out Of Control

However, till we get some clarity about how much of an impact Covid-19 will have on the economy and BDC balance sheets, there are no certainties.

Unfortunately, the coming week – and for many several more to come – investors will have more questions than answers, a perfect recipe for price volatility even in the once-staid and almost immoveable BDC Fixed Income market.