Today business development company Capital Southwest (CSWC) released their earnings and as I have come to expect their performance remained pretty darned good.
I have a meaningful position in the company’s 7.75% baby bonds (CSWCZ) which I bought when the bonds were sold in 6/23. The company has performed well for as long as I have watched them–maybe 2-3 years. The baby bonds mature 8/1/2028 so a bit less than 4 years.
I am mentioning this particular issue because it is the type of holding I like to have when interest rates are moving higher. 1st off it is relatively high yield. 2ndly it has an early call available to the company in 2025 (unless rates fall there are low odds of a early call) with maturity in 2028. The high yield helps to maintain pricing levels as interest rates move higher (as long as it doesn’t get crazy) while the maturity date will keep the price close to $25 even with higher interest rates. The issue just went ex-dividend 10 days ago and had been trading at $26–now at $25.65–I paid under $25 a few cents for it so I have capital gains. There is almost zero chance of me selling this issue unless the ‘wheels come off’ the company–a perfect fit for me.
So for my BDC holdings I like to look over the financials when earnings are released. I don’t dig into the details of which companies they are invested in–these are mainly smaller company’s that one has never heard of and it is not meaningful to me to look at each individual investment. I look at an overview of the types of loans they make–I want mostly most 1st lien senior secured debt–in this case CSWC has 98% in this category. Then I want to know the non-accruals – are they reasonable? CSWC has 3.5% of the total portfolio of loans on non-accrual which is a number that is acceptable for a BDC. investment income was down $3 million quarter over quarter–but reduced expenses of $1.5 million helped to offset the reduced investment income.
The net asset value per share is $16.59 as compared to $16.60 last quarter. It is not unusual to see net asset value fall quarter to quarter–a 1 cent fall is pretty good. If I were to see NAV falling 20, 30 or 40 cents in a quarter I would be pretty concerned as it would likely mean they aren’t covering their dividend.
With BDCs, just like the CLO closed end funds, I like to see the company sell equity with an ‘at the money’ share sale program. CSWC has $412 million available on an ‘at the money’ program and during last quarter they raised $20 million selling equity at an average price of $24.49. The more equity they raise the better they ‘cover’ senior securities like the baby bonds we own.
All in all a fine company—here is their investor presentation.
If the shares price were to fall another 25-30 cents I would add to this position.
Could not find on any of your baby bond lists, but noted on Quantum. Did I miss it somewhere or is it not listed on the preferred/baby bonds or baby bond lists here?
Thanks Tacitus–will check and update as needed.
cswcz – based on current rates quality bdcs have been executing bond deals at I would bet this gets called this year UNLESS rates move over 4.5/4.75 (10 year) – I’d bet they could sell bonds at 6.5% or better right now, their traditional notes trade at ytc/ytm less than 6% right now although super thin
could be wrong but that’s my 2c – doesnt make this a bad bond I just wouldn’t count on it lasting to maturity – current YTC less than 5% though… I used to own this but sold when ytc went under 5% as my bet is they call, if not this is a great deal!
Z–I will watch rates and re-evaluate as time goes by.
Tim,
If rates rise do you think the loans become riskier because the companies are typically not highly rated ( or rated at all)?
As usual, it depends. Why, by how much and over what time period? For example, if rates are up because of stagflation… bad… if they’re up because the economy is humming… probably good. How and how much…. where are rates going up… we could get a steepener where long rates go up but short rates don’t and so the impact on floating rate is muted. Do they go up 50bps… probably not an issue idiosyncratically… but 250bps could. If we make the argument that rising rates are bad… explain the fact that rates are up over 400bps and we haven’t seen a wave of distress. It’s increased a bit, but spreads remain historically tight for credit.
All of this to say, there is no universal application. It depends.
Lt–you would be correct–in my opinion. I have been waiting for years for BDCs and CLOs to be ‘tested’–either through interest rates or recessions so we don’t know for certain how things will shake out until we can get a better test.
Sort of reminds me about my dad’s warning about muni bond insurers before the financial crisis. He’s been in commercial ins for 70 years and told me the muni insurers had never been tested.
Tim,
the first call, according to quantumonline is 8/01/2025. It may only have a couple more divs. If you can get it around $25 that’ll be ok but otherwise you will likely only get your money back.
And therein lies the “game” – holding for the divi, but want to get out with a good capital gain.
Its now trading about 2 quarters worth of divi above redemption. Sell too soon and you can leave money on the table (depending on reinvestment opportunities). Sell too late and you may leave money on the table.