BDC COMMON STOCKS

Week 36

Double Dip

The markets slumped in July, bounced back and have now slumped again.

Every new data point seems to engender a different reaction, as this 3 month chart of the S&P 500 illustrates:

Gravity

Typically, the BDC sector cannot escape being affected when the main markets make major moves, especially to the downside.

So you won’t be surprised to hear that BDCZ – one of our price guides for the sector – fell (1.6%) in the 4 trading days ended September 6, 2024. So did the S&P BDC Index on a price return basis.

The S&P BDC Index on a total return basis – which includes any distributions received – fell (1.5%).

BDC investors are faring better than those holding the S&P 500, NASDAQ and the DJI, but how much comfort is that ?

Anyway, 34 BDCs were in the red in terms of weekly price change – the worst performance by this metric in 6 weeks – at the time of the earlier meltdown brought on by concerns about a coming recession.

We note that the number of BDCs trading within 5% of their 52 week highs fell from 9 to 4 during the week – suggesting investors were taking their profits and running.

(Still, there are 17 BDCs with a price within 10% of their 52 week highs).

Also of note is that 5 BDCs are now trading within 5% of their 52-week lowest price. The week before – assuming we got the numbers right – there were none.

We get the impression there was a lot of “cutting and running” in all directions although the news coming out of BDC-land was routine.

See The News Feed

Several BDCs announced unchanged monthly (PFLT & PNNT) or quarterly distributions (MRCC). Others let us know about new deals just booked (MAIN,TRIN) and special purpose vehicles received new funding (OBDC) or new capital commitments (PNNT).

We’re still waiting for Investcorp Credit Management (ICMB) to report its results to fully close the books on the IIQ 2024.

What we’ve heard from the 41 BDCs that have released mid-year 2024 results can be characterized as largely in line with expectations – and with the prior quarter.

We’re relying for that statement on our own grading of the performance of the many BDCs involved.

Not Happy

With that said – based on comments made by several analysts on the 40 or so conference call transcripts we’ve read – there does seem to be a feeling in the BDC zeitgeist that credit performance was weaker than many expected.

After all, this was the quarter that several larger BDCs took significant hits on the spectacular failure of Pluralsight, in which over $800mn had been invested.

In turn, throughout earnings season, Ares Capital (ARCC); BlackRock TCP (TCPC); Blue Owl (OBDC); Goldman Sachs BDC (GSBD); Golub Capital (GBDC) and Oaktree Secured Lending (OCSL) had to acknowledge booking a significant write-down.

Also disturbing for analysts and investors was the speed at which Pluralsight turned sour. Two quarters ago, the senior loans involved were valued close to par. By June 2024, half the original cost had been discounted.

There were a few other mini-Pluralsights in the quarter -i.e. new non-accruals, usually held by multiple BDCs such as Khoros (aka Lithium); Emergency Communications Network and SEKO Global Logistics Network.

Contrarian

However, we happen to track every BDC’s new non-accruals every quarter and we’re not convinced that this quarter was different than any other.

After all, in the IQ 2024 we had to contend with Hearth Food Holdings; Benefytt and Research Now Group.

We’re still counting but at this point we can’t say that the latest credit results are materially more worrisome than in the quarter before or in 2023 when we started keeping reams of data on this matter.

Where We Stand

In any case, as of Week 36 of 2024, BDCZ is down (1.9%) in price and the BDC S&P Index Total Return comes to 7.3% – almost exactly half the performance of the S&P 500.

22 BDCs (including PSBD) are up in price this year and 20 are down.

However, while the best price performer is up 14% this year (that’s Barings BDC, or BBDC), the worst performer is off (31%) – that TriplePoint Venture Growth, or TPVG.

14 BDCs are trading at or above net book value per share – somewhere in between the highest and lowest levels of the year.

We’d characterize BDC price performance so far as mediocre, but not abysmal – both in absolute terms and by comparison with the major indices.

As we’ve mentioned, though, in prior articles, if you happened to invest in the best individual BDC performers you’d be much happier than most investors in any market.

However, if you were unlucky enough to invest in 3 to 5 of the Biggest Losers you’d be down nearly (25%) in price terms and looking at a total return percentage loss in the low-to-mid double digits.

Looking Forward

Regular readers will know that we don’t have the temerity to predict where BDCZ – and all the individual BDC stocks – go from here, even only to the end of 2024.

As we’ve seen twice in a few weeks, BDC prices are at the mercy of macro conclusions that many investors are making – and those conclusions are constantly changing.

We might get a period of good feelings after the Fed starts cutting rates as opposed to the slump that most pundits are predicting based on prior market experience.

That could stabilize BDC prices and bring investors back to the 12.0% average yield BDC Best Ideas calculates remains on offer.

BDCZ would need to move up 9% to exceed the 52 week high reached in June of this year or the highs reached in 2020 and 2022.

Or, investors will whip out their napkins and envelopes and project that BDC distributions will be falling in 2025 due to lower rates and stay away in droves.

Of course, if we do get a bona fide recession, there will be much talk about the profligacy of leveraged lenders in recent years; concerns about huge credit losses will mount and – almost certainly – BDC prices will slump.

We’ve been BDC sector price watching for twenty years and never seen investors hold their ground when the fear of a recession begins to build in even a minority of market participants.

Most long-time BDC investors – enjoying cutting their rich coupons – will hold on to their positions for as long as possible but – if past is prolog – will ultimately sell off, hoping to get back in at a more attractive price.

As with stock investing generally that’s easier said than done as research – and our own experience – has shown that a great deal of any price rebound happens in a short period after the bottom was reached.

Wait around for confirmation that the all-clear has been sounded and you may be too late.

Still, who can resist the prospect of getting to buy a quality BDC (20%) or (30%) below where they normally trade.

The rest of the year is likely to be a time of high anxiety for BDC investors trying to make the right strategic move just as the economic and interest rate backdrop of the past year is undergoing a drastic change.