BDC COMMON STOCKS

Week 26

Timeline

Yes, we are already at the mid-point of this difficult year for BDC stocks and investments generally.

Inconveniently, the second quarter and the first half of the year ended on Thursday, with the week closing a day later on Friday.

That means we’ll have to report different results for each of these periods.

Stranger Things

Looking at the whole week, this was a curious one.

As this price chart of BDCZ – the UBS Exchange Traded Note which owns most BDC stocks – shows, the sector was headed gently downward most of the time, before temporarily crashing to a new 52 week low of $16.07 intra-day on Thursday.

At that point the sector was almost in freefall – (6.8%) down from the close on the prior Friday.

5 BDCs reached new 52 week lows – a now routine occurrence.

Secret Signal

Then – as happens so often with BDC stocks – the buy signal went out and BDCZ jumped up in price to close at $17.74 on Friday – just before the long week-end.

BDCZ ended up 2.8%. That’s not quite as much as the week before at 3.1% but quite a turnaround.

The BDC S&P Index – calculated on a “total return” basis of price and distribution – also moved upward on the week: by 2.7%.

For The Record

The second quarter of 2022 performance of BDCZ was dismal, with the exchange traded note down (15.6%) in price.

The S&P BDC Index was not much better at (14.1%).

Thankfully, the IQ 2022 had gone quite well for the BDC sector, which has mitigated the blow when we look back at the first half of 2022.

For the first half of the year ended on Thursday, BDCZ was off (13.8%) – clearly in “correction” territory.

The BDC S&P Index – in the same period – fell (11.1%) – even after taking into account distributions.

Looking Over Our Shoulder

Clearly, that’s not a very good start to 2022, but far outshines/is less horrid than what has happened to the major indices:

The S&P 500 fell by 0.9% on Thursday to reach 3,785.38, ending the first half of 2022 lower by 20.6% for its worst start to a year since 1970. The Dow ended Thursday’s session at 30,775.43, dropping 15.3% for the year-to-date for its worst first half since 1962. And the Nasdaq’s 29.5% drop so far in 2022 marked its worst first half on record.

Yahoo Finance – “Stocks Slide – Emily McCormick – June 30, 2022

YTD

On a 2022 YTD basis – thanks to a monster 3.1% increase in BDCZ’s price on Friday as investors began celebrating early – that indicator is down (11.6%).

The S&P BDC Index – because of half a year of juicy BDC distributions and using a slightly different methodology – is down “only” (8.8%).

In a “relatively speaking” world – and possibly only for a brief period – the S&P BDC Index paints a relatively benign picture of BDC sector performance at the year’s halfway point – not even “in correction”.

There are investors in the NASDAQ who’d be delighted to have that sort of result.

No Celebrating

Still, Seeking Alpha data indicates that no individual BDC has managed to eke out a gain price since December 31, 2021 so there’s not much to celebrate.

31 BDCs have dropped (10%) or more in price in 2022, including 8 with (20%) or more declines.

Coming Up

Just because the first 6 months of the year were poor for BDC stocks, it does not mean the rest of 2022 will follow the same path – as Friday’s results illustrated in a small way.

Financial statisticians have been quick to remind us that although the S&P 500 dropped hugely back in 1970 through June, in the second half of that year all those losses were made up and more.

Clearly, that could happen here with BDC stocks – especially as the sector has been relatively resilient in the face of many headline risks.

The Usual Suspect

Much will depend on whether we get that infamous recession promised us by most economists, and how severe the contraction turns out to be.

Rose-ish

We get the impression right now – and this could turn on a dime – that BDC investors are relatively sanguine that whatever storm headed our way will not be too damaging.

For what it’s worth, this week Fitch Ratings looked into its crystal ball for 2023 where expected institutional debt defaults are concerned and only raised its projection from a low level of 1.5%, to a still modest level of 2.0%.

Of course, BDC credit exposure does not exactly mirror the sort of loans Fitch is discussing nor is there any guarantee that the rating agency’s prognostications for 2023 are even close to accurate. Furthermore – at this point – Fitch is not even envisaging negative economic activity in 2023, just a drop in GDP growth to 1.5%.

Half Empty

Many other analysts – seemingly more every day – expect future economic conditions to be far worse than Fitch does.

As you’ll have heard, thanks to data from the Atlanta Fed, an argument can be made that we’re already in a recession here in the first half of 2022.

We don’t know what the future will bring in this regard – and the extreme volatility in BDC prices, which included many stocks reaching both a 52 week high and 52 week low in the space of a few weeks – suggests investors are not sure either, Friday’s 3.1% increase notwithstanding.

Horse’s Mouth

However, both the BDC Reporter and BDC investors generally, will be eager to hear from the BDCs themselves.

That’s coming up shortly as this week a series of players began to announce earnings release dates for the IIQ 2022 results.

We will shortly begin to update the BDC Earnings Table with every earnings release and conference call scheduled. In many cases, we also indicate what issues investors should be looking out for each BDC.

Much will be learned when the numbers come out and as conference calls are held.

The BDC Reporter will also be scrutinizing valuation changes at BDC portfolio companies for signs of credit stress.

Pivot Point

Nonetheless, recessions tend to change all the narratives once they take hold and make all those backward looking disclosures seem outdated.

So far, even if the Atlanta Fed is right, the credit markets are not yet in a true crisis mode, but have more in the nature of a mild fever.

We hear that high yield market yields have increased thanks to higher long term rates and wider spreads and that the syndicated loan market has slowed down and leveraged loan prices dropped. According to the S&P LSTA Index, the price of loans has fallen to 91.0% – its lowest level since October 2020.

Alive And Kicking

On the other hand, there has been a rush of large unitranche loan transactions successfully booked in the second half of the year, and several more are in the docket.

Volume in the first half of 2022 for private loans sized at $1 billion or more has reached $30.8 billion, a level that dwarfs the $9.5 billion recorded in the same period last year, according to Direct Lending Deals.

On a total basis, overall jumbo volume stands at $86.5 billion, a 55% increase from $55.7 billion at the end of 2021, according to DLD.

…Direct lenders expect the second half of 2022 to generate a strong pipeline of jumbo financings. Sponsors are increasingly turning to shadow banking for certainty of terms and quick closings. Jumbo private loans totaled $37.5 billion in the second half last year alongside record M&A volume. While the 2022 acquisitions calendar has been softer, volatile financing conditions are clearly pushing more business to direct lenders. 

Direct Lending Deals – 7/1/2022

In the lower middle market, deals are still being done as illustrated this week by Gladstone Investment’s (GAIN) highly successful exit from its investment in Basset Creek. The company was acquired by Los Angeles buyout form Highview Capital.

Venture debt lenders Hercules Capital (HTGC) and Runway Growth (RWAY) have both been eager to let us know through press releases that they are advancing new monies to existing and new borrowers in the technology sector.

As discussed on these pages, Owl Rock Capital’s (ORCC) asset based financing subsidiary Wingspire has just made a significant acquisition.

A week ago, we were reporting on the partial re-opening of the unsecured note market for BDCs seeking to raise junior debt capital, and at pretty fair interest rates given where the risk free Treasuries are priced.

All of which is to suggest that while these are not the best of times, they’re not the worst of times either where the BDC and credit markets generally are concerned.

Other Shoe

Unfortunately, we imagine that conditions are likely to get worse before they get better, but how and when that plays out is impossible to divine.

We may still be several quarters away from whatever bottom we’re going to get so the coming earnings season – while interesting – may not offer any definitive clues as to the BDC sector’s ultimate performance.

Still, we’ll be very busy from early August on and readers should expect a mountain of content and commentary.