The following is an excerpt from Amey Stone | May 7, 2016 | Barrons.com |
Business development companies (BDCs) have been a hot mess for the past few years. Headlines generated by these firms, which are publicly traded and make loans to midsize companies, focus on shareholder activism, lawsuits, high fees, and investor losses.
The BDC index has rebounded some 10% since mid-February, along with broader credit markets, despite a paucity of actual growth. Quarterly earnings reported in the last week include slashed dividends, increased credit losses, and fewer loan originations. “We’re getting a mixed bag,” says Mitchel Penn, who covers BDCs at Janney.
But there are a few gems. Some have quality management teams, boast high yields, and sell at attractive discounts to the value of the loans on their books. Separating good BDCs from the dreck can mean avoiding ones with the biggest yields or those selling for the largest discounts to book value.
“They are definitely an underfollowed, underloved asset class,” says Mike Terwilliger, who includes them in the income portfolio he manages for Resource America. “That creates advantages for investors since it’s a less picked-over part of the market.”
Terwilliger’s favorites include Ares Capital (ticker: ARCC), the largest and arguably the premier BDC name, which is trading at an 8% discount to net asset value. Ares has a 10% yield. He also likes Solar Capital (SLRC), which has nothing to do with solar energy. It is growing earnings, has less leverage than the average BDC, no energy exposure, and is trading at 88% of book value with a yield of 9%. PennantPark Investment (PNNT), slammed in the past year due to high energy exposure, now boasts a yield near 18%. Terwilliger thinks it’s cheap and lauds the management team.
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