Friday, March 28, 2014

Do You Know What's In Your BDC?

Business development companies (BDCs) publish a list of their investments every quarter.  But do you really know what's in your BDC?  Probably not.  This article from the Financial Times is worth reading (requires free registration if not a FT subscriber).

According to the article, leveraged loans (loans to companies already with substantial debt) classified as single B, which are the main components of BDCs, made up more than a third of new issuance in 2013.  This reversed a recent trend where more higher rated bonds were issued, and this was the first time since 2004 and 2005 where more single B loans were issued than double B loans.  The resurgence of lower rated loans indicate a loosening of credit markets as investors seek higher returns in investments with higher risk.
The article also touches on the return of covenant-lite loans (think no-doc mortgages) and payment-in-kind loans (interest payments added to loan principal, not cash, so think negative amortizing mortgages).  I have not seen any payment-in-kind loans in BDCs, but I'm not sure whether a BDC would have to disclose whether its loan portfolio included covenant-lite loans.
BDCs own, originate and purchase high yield loans.  That's no secret.   Lending to small, unrated businesses is the primary mandate of the BDC structure.  The article concludes by stating that investors are attracted to B-rated loans by the chance to earn high returns will retaining seniority.  I want to see more information on the borrowers and types of loans in BDCs. 

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