One area of the market that has been hit hard has been business development companies.
Investors have been spooked by concerns about energy-related loans, fears that the weakness in the high-yield market will spill over into direct lending and worry that the slow economy will lead to higher default rates.
A significant percentage of BDC shares are held by income-seeking individual investors, and they are the most easily spooked of all investors, so the selling has been fairly persistent. They are now at the point where the enormous opportunity to lend to middle-market companies is completely discounted and many of them appear to be at bargain prices worth considering by long-term, patient investors.
I prefer to buy those that have a close relationship with a large investment or private equity firm, as it gives them access to strong risk management and research tools as well as a potential source of capital in a worst-case scenario.
BDC Stocks to Buy: Goldman Sachs BDC Inc (GSBD)
Goldman is still the largest shareholder of the company and is using its expertise and relationships help the company source and research deals.
Since formation, the BDC has returned about 11.8%, and its fully realized deals have earned an internal rate of return of about 15%. It currently has no loans on accrual status in the portfolio.
At today’s price, GSBD shares trade a little bit below book value and the yield is 9.1%. Goldman has relationships with just about everybody in the financial markets and it’s a safe bet it will use those to help this BDC continue to outperform the sector.
BDC Stocks to Buy: Apollo Investment Corp. (AINV)
One of the hardest-hit BDCs has been Apollo Investment Corp. (AINV).
That’s not really too surprising as it has one of the largest energy exposures, with 14% of the loan book dedicated to oil and gas loans.
AINV felt a little pain in the quarter as book value fell by 3.4% to $7.56. At this price, the shares are trading at just 68% of book value. While there are concerns about a dividend cut, I noted that they did earn the dividend in the quarter, albeit just barely. And even if they cut the 16% yield in half, that would leave us with a security yielding 8% or so.
In a worst case of the loan portfolio, it looks like the book value would drop to just a little bit less than the current stock price so I think there is somewhat limited downside at current prices. Management seems to agree, as they have bought back 10,584,855 shares of common stock for an aggregate cost of $62.4 million between the start of the share repurchase program in August 2015 and Feb. 8, 2016.
It is affiliated with global alternative asset leader Apollo Global Management LLC (APO), and I think that relationship helps them survive the current difficult conditions with huge total return potential.
BDC Stocks to Buy: BlackRock Capital Investment Corp
The BDC has expressed concerns about market volatility and has been taking steps to protect the portfolio in a volatile market. CEO Steven Sterling said on the latest conference call, “Importantly, we are positioned for market volatility and poised to patiently continue to grow net investment income given our low net leverage at 0.45x and reduced portfolio risk resulting from our decision to monetize the majority of our equity investments during the second quarter.”
This is going to put it in a good position to take advantage of any opportunities as the year progresses. BKCC is easily earning the current dividend, and the shares yield about 9% right now.
BlackRock Capital Investment shares trade at 84% of book value and appear to be a solid bargain for long-term, patient investors.
As of this writing, Tim Melvin was long AINV. He is the author of the Banking on Profits newsletter covering the community bank stock opportunity and the Deep Value Report that seeks out undervalued stocks that are likely to survive until they thrive and capture the value effect that has been proven to beat the market over time.