BDC COMMON STOCKS

Week 51

[Insert Energizer Bunny Analogy]

The momentum of the “everything rally” is carrying all the major indices higher, and the BDC sector is no exception.

The S&P 500, we are told, is closing in on its all-time high, breaking records set in January 2022 just before interest rates went haywire.

This seems undeniable proof that where the markets are concerned the era of rising interest rates is behind us, and we are entering a new phase.

Investors who have been sitting on the sidelines have returned, judging by stock prices and 8 weeks in a row of gains.

We wonder who’s left believing a crash is right around the corner or that further rate increases are in the cards.

In the Black

Anyway, in this penultimate week of a gut-wrenching year, BDCZ is up 0.9% and so is the S&P BDC Index total return.

BDCZ closed at $18.91 a share, close to its 52-week high of $20.00. Intra-week, the index reached $19.02.

Tops

Even more impressively, the S&P BDC Index – benefiting from the very high dividends being paid out – closed the week only (0.1%) off its 2023 YTD, 52-week and all-time high.

In 2023, this index – beloved of “buy and hold” investors is up 27.1%.

Remarkably, the BDC sector has out-performed the S&P 500 in an exceptional year for the latter where their “total return” amounts to 25.9%.

What A Difference A Bailout Makes

We’re a long way from the dark days of the spring when BDC investors were fleeing in panic following the collapse of Silicon Valley Bank (SVB).

One could argue that the government should never have permitted matters to get as bad as they did. Still, there’s no denying that the measures taken to support the banking system and inject liquidity where needed have proven an unalloyed success.

Faith

As this chart shows, BDCZ’s stock price is up 18% since its nadir in May as investors began to convince themselves that we were not about to have another repeat of the GFC.

If you want evidence that BDC investors are as skittish as cats note the recent price swoon in October-November when everybody became convinced – ironically enough given what followed – that long-term interest rates were going to shoot up.

Anyway, since early 2022, there have been 4 or 5 of these setbacks but, in each case, investors have climbed that “wall of worry”.

What Everyone Wants To Know

Can BDC prices move even higher?

For what it’s worth BDCZ is still trading below its level in the months before and after the pandemic, and will need to move up nearly 10% in price to exceed its 2022 height.

We could even make a case – going by the dividend levels then and now – that the sector could move back to its all-time highs set in 2017, which would involve a 25% increase.

Tough Choices

Holding on to the BDC stocks you already own or “getting in” now, though, is going to be difficult for investors.

Most BDCs are already trading at elevated prices, with 30 of 42 within 10% of their 52-week highs. 20 are within 0%-5% and 10 range from (5%-10%) off.

4 BDCs hit new 52-week highs this week and 7 the week before.

17 BDCs are trading at or above their net book value per share. That’s within spitting distance of the highest metric we’ve recorded for this particular metric.

Difficult

Then there’s the big question mark: how much – if at all – will BDC distributions drop from their very robust levels at the moment as interest rates come down?

The BDC Reporter – drawing on the work done by sister publication BDC Best Ideas – is sanguine that total BDC payouts in 2024 will remain close to, or even exceed, their record-breaking 2023 levels.

However, there’s no denying that as the Fed cuts rates ever more there will be no escaping the math involved: BDC earnings and distributions will drop.

Counter-Intuitively

Will that cause BDC prices to fall as well or will the sector’s still high yield prove to be more favorable than other income-producing investments?

If the latter occurs, there’s an argument that BDC prices could defy the gravity of lower EPS/distributions and move higher anyway.

We’ve been propounding that argument in BDC Best Ideas for some time, especially if BDC credit losses remain within a “normal” range as they have.

Never Get Comfortable

On the other hand, we’re as suspicious as anyone else of seemingly indefatigable rallies as this one which have been known to turn on a dime as some participants take profits or some new obstacle appears that causes cat-like skittishness.

We’ll see what happens next. After all, it’s all this uncertainty that makes this weekly Market Recap interesting.