During the recent market slide, many investors decided to hit the sell button and ask questions later. Fears about holding in the energy sector have driven prices sharply lower. That has created a big disconnect in one sector that no one is talking about.

Business development companies (BDCs) lend to or invest in privately held companies. Typically, a business that gets a loan from a BDC can’t get one from a bank and, as a result, pays higher interest rates.

[ad#Google Adsense 336×280-IA]And that usually works out well for income investors.

BDCs often have high yields, many above 10%.

The recent bout of selling, however, has hit BDCs particularly hard.

They now have an average yield of 14% and are trading, as a whole, at a stunning 24% discount to their net asset values (NAVs).

(NAV is the value of all of a company’s assets.

Another way to think about it is the amount of money a company would receive if it sold all of its investments.)

The fact that the average BDC is trading at a 24% discount means you can buy high-yielding companies for $0.76 on the dollar. Now, of course, there is some risk associated with those higher yields and steep discounts. Otherwise, there wouldn’t be a discount.

But if you look at companies with lower-than-average exposure to the energy industry, you should be able to find some BDCs that are mispriced due to panic in the markets and investors selling the entire group down.

It’s a classic “throwing the baby out with the bathwater” scenario.

Below are several BDCs trading at steep discounts that have strong yields and single-digit exposure to the energy sector. Most BDCs will report fourth quarter results in the next few weeks. NAVs are likely to come down, but not nearly by the amount the stock prices have fallen.

  • Fidus Investment Corp. (Nasdaq: FDUS) – At the end of the third quarter, Fidus had an NAV of $15.12 per share. Today it’s trading at $13.39, a 12% discount. It yields 11.6% and has less than 4% of its portfolio in oil and gas companies.
  • Monroe Capital Corp. (Nasdaq: MRCC) – Trading at an 18% discount, this BDC yields 11.9% and has just 3% of its portfolio in the energy sector.
  • OFS Capital (Nasdaq: OFS) – At the end of the third quarter, OFS had an NAV of $14.46. The stock now trades at $10.21, a 29% discount. It yields 12.3% and has no exposure to the energy sector. Note that the stock is a microcap and is not very liquid.
  • New Mountain Finance Corp. (NYSE: NMFC) – A member of The Oxford Income Letter’s Retirement Catch-Up/High Yield Portfolio, the company recently issued fourth quarter NAV guidance of $12.90 to $13.15. Using the midpoint of guidance, the stock trades at a 12% discount and yields 11.7%. The energy sector makes up 7% of its portfolio.
  • THL Credit (Nasdaq: TCRD) – It is trading at a 27% discount to its third quarter NAV. The stock yields 11.9% and has 6% of its portfolio invested in energy.

These are not recommendations, but starting points for your research. If you do your own homework, the most recent investor presentation found in the “investor relations” section of most BDCs’ websites will break down the percentages of the portfolio invested in each sector, so you can be sure you don’t have too much exposure to energy or any other industry that you’re concerned about.

Right now is a unique opportunity to take advantage of the fear in the market and buy some cheap assets with strong yields.

Remember, high yield means there’s risk. But considering the steep discounts to the assets, I believe the risk has been lowered. And you can reduce it even more by looking for BDCs with limited exposure to the energy sector.

Good investing,

Marc

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Source: Wealthy Retirement