BDC COMMON STOCKS

Week 11

Tumultuous

For a second week in a row, the markets were roiled by bank crises.

With Silicon Valley Bank (SVB) closed the week before, we moved on to Credit Suisse, First Republic Bank, and the guessing game of “who else?”.

A large number of banks were quietly borrowing $90 billion from the newly established Bank Term Funding to shore up their liquidity.

When you add together the Bank Term Funding program and draws from the Fed’s discount window, the amounts borrowed exceeded those in the Great Financial Crisis (GFC).

Counter Intuitively

Yet…

The S&P 500 was up 1.4% this week and the BDC sector – as measured by the UBS Exchange Traded Note with the ticker BDCZ – was essentially flat – closing at $16.17 versus $16.15 the week before.

You wouldn’t know it from reading the headlines but investors seemed to be comfortable that the financial system will hold together.

Up And Down

Where the BDC sector was concerned, one-third of the individual BDCs we track gained in value, and two-thirds lost.

After a universal retreat the week before, 5 BDCs managed to increase their stock price by greater than 3% over the five days.

This suggests that some “animal spirits” returned despite the great uncertainties that remain at the weekend.

Not A Pretty Sight

Nonetheless, much damage has been done.

Like the week before, the number of BDCs trading at a price at or above net book value per share remained at 5, versus 15 a fortnight ago.

During the week – as covered in the BDC Reporter at the time – 5 BDCs reached new 52-week lows.

By Friday’s close, only one BDC (Fidus Investment – FDUS) was still trading within 10% of its 52-week high and 22 BDCs were priced somewhere between 0 to 10% above their 52-week low point.

Hanging In There

Nonetheless, it’s a testament to the rally that preceded last week’s price drop that some 15 BDCs are still up in price on a 2023 year-to-date basis and that BDCZ still remains 4.5% above its 2022 lowest point.

From a market price standpoint, the BDC sector has been bent but is not yet broken.

We imagine most investors are waiting around to see what happens next to the financial system.

Full Disclosure

The managers of the public BDCs have rushed – on the advice of their lawyers – to reassure their shareholders about what little exposure – direct and indirect – they have to Silicon Valley Bank and Signature Bank.

Many used the opportunity to remind anyone interested of the strength of their balance sheets and of their plentiful liquidity, as noted throughout the week in the BDC Daily News Feed.

The Great Unknown

What the BDC managers cannot tell us is what happens next to the leveraged finance market and to credit conditions.

Many observers are predicting that the challenges facing the regional banks will cause them to pull back on new lending and tighten up their existing portfolios.

Opportunity?

On paper – like the disappearance of SVB – this might serve to increase the prospective market share of the BDCs.

Even the largest banks – awash in new deposits and not facing the sort of existential questioning going on elsewhere – may hold back for some time – benefiting BDCs who have no deposits to contend with.

Darkening

On the other hand, the much-anticipated recession may be accelerated and deepened by the financial crisis.

Goldman Sachs this week raised the odds of a recession occurring to 35% from the 25% estimated previously.

Perma-bear David Rosenberg predicted a “crash landing” for the economy.

An index of CEO confidence dropped in March, reversing a previously more optimistic trend.

And so on.

Difficult

In our case, we still have no real understanding of how the failure of SVB will affect the credit performance of the venture-debt markets.

One imagines that the less promising venture-backed companies may fall by the wayside as what capital is available goes to the stronger players.

How that translates – if it even happens – to the BDC lenders in that segment is unknowable.

For our part, we remain optimistic that the venture-BDC portfolios are mostly filled with the more resilient companies and that most of the financial damage that might result from this historic blow-up will be at the expense of the equity capital invested.

These are just suppositions and will need confirmation in the months ahead.

Tough Times

In the short run, though, we anticipate that BDC investors generally are more likely to face more questions whose answers will not be known till late 2023 or even 2024.

An already bruised and battered BDC market seems set for an extended period of high anxiety.

Investors may yet “climb the wall of worry” but if they do so it will be an unusually high one.