This Panic Just Created 13% Income Opportunities

Recently, the Wall Street Journal published a short piece noting that Moody’s Ratings had lowered its outlook for business development companies (BDCs) from “stable” to “negative.” There are some interesting comments in the article, and I think the downgrade gives investment opportunities.

The article glosses over what I think are a couple of important points. BDCs come in two basic types. Publicly traded BDCs have shares listed on the stock exchanges. Investors can buy and sell shares without affecting how the companies operate.

Private BDCs are managed by large financial institutions such as Blue Owl Capital (OWL) and KKR & Co. (KKR). Investments in these funds are sold through financial advisors. They are not liquid investments, and investors are made aware of the tight withdrawal limits.

“Private credit” has become a scary buzzword for investors. Both public and private BDC funds make loans to companies. What makes these loans private is that they do not trade on any markets.

Private lending loans are not easily sold or turned into cash. That is why these BDCs have strict withdrawal limits. Recently, private credit fear mongering has pushed investors to request (from private BDCs) a lot more than the allowed withdrawal limits. This has caught the attention of the financial media, who are hoping that where there is smoke, there is fire. In this case, the actual fire would be growing default rates in the $1.5 trillion of private credit debt. But as I listened to BDC management teams, I did not hear any news of higher-than-normal default rates.

The financial media is hanging its hat on the idea that scaredy cat investors know something that the professional fund managers don’t or won’t admit to. It seems like a stretch.

Fears about private BDCs have spread to publicly traded BDCs. Scared investors cannot pressure the exchange-listed companies to liquidate their assets. Investors can easily sell their shares (and lock in their losses).

Or, you can use the market’s current fears to pick up some BDCs while they’re “on sale.” Here are a couple of BDCs trading at very attractive levels.

Hercules Capital (HTGC) is down 19% year to date. The 10% regular dividend yield is very secure, and supplemental dividends will tack a couple more percentage points to the cash return. When private credit fears subside, I expect HTGC to trade at least 25% above its current value.

For some reason, Capital Southwest Corp (CSWC) has not been caught up in the BDC fear sell-off. The CSWC share price is up about 4% year to date. The BDC currently yields 11%. If you like a high yield and stable share price, add some CSWC to your portfolio.