PDO - Barings BDC: The Lessons Learned From Recessions And The Opportunities They Provide Investors

2023-04-30 04:23:20 ET

Summary

• Why recessions can be an opportunity for investors will be explained.
• I will outline specific cases where I have utilized such opportunities.
• How the history of recessions and banking crises are related will be dealt with in the article.

Concerning the periodic contests that Seeking Alpha promotes for their contributors, they currently have a contest ongoing - Best Investment Idea for A Potential Recession .

With this article, I will suggest an investment philosophy offering investors a greater chance to grow their net worth when they take advantage of a recession in our economy. Having money to invest during a recession often means you can buy discounted shares paying lucrative dividends. Such an investment can be rewarding for the investor who takes advantage of this opportunity and invests with a long-term buy-and-hold approach.

In the article, I will give personal examples of how I've invested my funds during a recession and what I have done during the current recession. The stock that I will concentrate on is Barings BDC, Inc. ( BBDC ). Barings has a short history (2018) as an operating company. However, the lineage from the parent company, where they operate under MassMutual Insurance umbrella of companies, their pedigree goes back 250 years. For more on the background of Barings, I shared my first article about them in 2019, where you can read more about their creation and business model.

In its short history, Barings has never experienced operating under the impact of an ongoing recession. However, from what I have seen since initially investing in the company, I feel comfortable thinking they can handle the tasks.

With Barings reporting its 1st-quarterly results next week (May 5th), I will only highlight its operating model. However, anyone considering investing should wait until we see their upcoming quarterly results filing. This is a link to their most recent quarterly report .

• Barings BDC is a new entity as of August 3rd, 2018 when it consummated the take-over of Triangle Capital Corporation, whose stock traded on the NYSE. The modern-day form of Barings was created in 2016 when the parent company, MassMutual, folded four affiliated firms - Babson Capital, Barings Asset Management, Cornerstone Real Estate Advisers and Wood Creek Capital Management - under a new corporate structure. The actual history of Barings can be traced back to 1762 when it was formed as a British merchant bank in London. It has been noted as being the world's second-oldest merchant bank.
• As of September 2018, Investment Portfolio stood at $1.10 Billion
• As of December 2022, Investment Portfolio stood at $2.448 Billion, more than double their initial portfolio.
• Net Asset Value as of 12/31/2022 ---$11.05
• Net Investment Income --$0.34
• Initial Dividend Paid in 2018 ---$0.03.
• Current Dividend Rate --- $0.25
• Institutional Ownership is 50%
• Barings has in place a share buyback plan.
• Barings has credit support agreements from MassMutual that give them downside protection during the ongoing recession.

Investing in the Stock Market is Not a Game:

Many investors prefer to "play the market", which is often a quick way to lose money. When your money is invested in the stock market-it isn't a game of 'tag' or 'skip the rope.' When I was younger and just out of college, having kept up with the stock market but had no money to invest, I thought I could use my "smarts" to become a "player" in the market and become rich overnight. I always thought the following 'hot stock' would be the one that put me on 'Easy Street.' It wasn't long before I learned a valuable lesson about investing in the stock market. Furthermore, I quickly learned I certainly was not more intelligent than professional investors who depend on non-savvy investors willing to be a buyer for the previous 'sure-fire' stock they were ready to sell to naïve investors.

Every day in the newspaper and on the radio, the talk was about the popularity and growth of the mobile home market. Manufacturing plants were opening nationwide to keep up with the growing demand. I will never forget the day I walked into a stock brokerage firm and told the receptionist I wanted to buy a particular stock. My first stock was a company named Detroit Mobile Homes [DMH], and my paltry amount of money bought me 26 shares.

The stock closed a few pennies up on the first day of my new ownership. I owned the shares for several years; that first day was the only time I had a profit from this investment. Now I understand the adage about buying a stock on 'the rumor but selling on the news.' When one recognizes a new fad industry, if you own their shares, you might consider selling a portion before it makes the news on the front page of your local newspaper. The smart money is already positioned in their stock ownership; they are only waiting for latecomers driving up the stock so they can unload and move on to the next newest hot idea! Fad stocks are often wrong for investors if you don't understand how the market works and how quickly a rising fad stock will return to 'terra firma' with a thud. Cabbage Patch Dolls one day, and Hula Hoops being the next fad. Buyer's Beware!

How Long Does a Recession Normally Last:

Our nation's economic system has a long history of 'booms and busts' cycles. So the secret is having a strategy to take advantage of the next recession.

A recession occurs when economic indicators like the Gross Domestic Product, consumer demand, and employment decline. Starting in the 1850s, the average recession lasted about 17 months. However, since World War II, the average recession in the United States has lasted around ten months.

Economist prognosticators are seeing several indicators flashing warning signs or signs that things are improving for ending the current recession. Prognosticators have predictions that run the gamut of possibilities. Some say the recession will end within months or that this could be the worst global recession in history.

Who is right in this guessing game? There is no doubt that some indicators are flashing warning signs. However, as shown in a recent Forbes article , the data from the real estate market offers a wide array of differing opinions on this vital economic indicator.

What Does the Normal Recession Look Like as It Relates to the Stock Market:

In 2023, we know that food, gasoline, and mortgage interest rates have zoomed very high on our misery index as they each have impacted our daily lives. We have seen the second largest bank failure, Silicon Valley Bank, in our history. Close behind, we see First Republic, a regional bank falling upon hard times. We have seen the venerable Swiss-based Credit Suisse ( CS ) teetering on insolvency where ( UBS ) has taken them over. In the case of Silicon Valley Bank, we saw a North Carolina bank, First Citizens Bancshares (FCNCA), buying the bank. As for First Republic (FRC), we have seen a massive infusion of cash deposits. However, when we thought their problems had been resolved, investors continued withdrawing their funds deposited with these two banks. History has shown that insolvent banks, when their operations and ownership are transferred to a 'stable bank,' the issue is usually solved, and things go back to 'normal' for the surviving entity. But this hasn't been the case, as seen in First Republic Bank. As I write this article, on 4/25/23, First Republic is seeing another collapse in their stock price, down by another 29% as depositors withdraw billions of dollars from the bank. In the last 52-week period, First Republic's stock has fallen from $171.00 to the current $8.00 price level. Who could imagine loaning out mortgage funding for multi-million homes with sub-3% loans and waiving principal payments for ten years, and something terrible might happen with their portfolio when prime interests began climbing through the roof?

The situation with First Republic Bank is quickly becoming an issue with the potential of great consequence for the banking industry. The odds of them surviving are growing shorter and could spread to other banks that have been lax by their ignoring sound banking principles. I suspect a sound resolution will occur by early next week or the First Republic will no longer exist.

We Must Begin to Meet in the Middle for Our Economic System to Survive:

In January, Alphabet ( GOOG ) (GOOGL) announced it would cut 12,000 jobs, a 6% cut in its workforce. According to the filing, the median compensation for an Alphabet employee is just under $280,000. Their CEO, Sundar Pichai, has a compensation package that is more than 800 times larger.

Ballooning CEO compensation has become a growing controversial topic in recent years. Pay for top executives has skyrocketed by 1460% since 1978, according to a study by the Economic Policy Institute, and more than 80% of their pay is typically stock-related.

Typical recessions occur when market dynamics have caused the stock market and other economic factors to become overextended on the upside. Such events now call for a reset where a recession is the catalyst for such an event. Using Sundar Pichai, the CEO of Google and Google's parent company, Alphabet, will give us a window to look through where we see the dynamics at play where we now are scrambling to put out this raging fire besetting our nation with a dynamic new twist to this issue. CEO Pichai received total compensation in 2022 based on a mere $2.0 million base salary. $5.0 million for personal security details. His company stockholdings comprised the balance of his 2022 compensation of $226 million. Several other critical executives for the company received compensation packages in the $25 million to $37 million range.

The primary way to stamp out this raging acceleration of inflation is to fire low-level employees. They represent a prohibitive cost factor, but they can quickly be fired or laid off and thus preserve the next generous compensation package of a million-dollar base salary and lucrative stock options.

I have no issue with incentive packages, but we can no longer afford to spread such packages to only the upper management team. And with full disclosure, I received stock options from my former employer based on my position with the company.

The situation we now face is dire! Currently, we stand only a matter of weeks from defaulting on our national debt. Exacerbating this issue is the sagging amount of incoming tax dollars needed in our Treasury to cover this onerous debt load that is currently in place. Major technology companies are now firing employees across the full spectrum of job assignments . A new element of such firing/layoffs is that top-tier engineers and programmers are being fired, the workers needed to keep us competitive in this vital industry that has historically spurred our future economic growth. If you don't have a job, you aren't paying any taxes for our national debt. Doing the same thing repeatedly, why shouldn't we expect to see a never-ending bout with recessions riling our economy? But if we don't honor our national debt owed across many foreign nations--- a recession is the least of our problems.

When engineers and technology experts are being fired, and the latest national poll indicates that 56% of those polled didn't think it was worth the cost to get a college degree, we have a very troubling problem for maintaining our workforce's innovative creativity for building our economy.

But I Have Hope for the Future:

The mere fact that the premise for this article is that our economy could be on the verge of entering another recession is a very sobering topic. My wife and I are now retired, but early in my career, I remember what my mother had instilled in me - "If you can't pay cash for something, then you don't need it." With this admonition from my mother, I began to save 20% of my salary and bonus money in my company 401-K program, which my company matched 50% of my contribution up to the contribution limit. In 2008, when the most significant recession since the Great Depression hit back in the 1920s-1930s, I had already become a follower of Bill Gross, the Bond King and key portfolio executive for the PIMCO Funds. I created a sizeable PIMCO Corporate & Income Opportunity Fund ( PTY ) position. In the carnage of the stock market in 2008, this fund dropped into the $8.00 range. At these discounted levels, I increased my ownership in the fund, where today, my monthly dividend (not including yearly special dividends), is approximately $1,600.00. I also have minor positions in PIMCO's ( PFN ) and (PDO).

Another primary dividend-bearing equity I own is the BlackRock Enhanced Equity Trust (BDJ). Based on the monthly dividend of $0.0562 per share, on the surface, it doesn't appear such a dividend would be that enticing for a dividend investment. That is until you recognize that for 2022, they paid me an extra cash dividend of $2,360.00 and a Long-Term Capital Gain of $3,310.00 for my stake in the company. For 2021, they returned a Long-Term Capital Gain of $3,249.00. And every month for over a decade, they pay me a dividend totaling $680.00.

I prefer not to list all my dividend-paying holdings but merely show there are market factors that allow you to buy up positions that are reliable and steady dividend-payers. With a long-term buy-and-hold outlook, the rewards can be relevant for securing a retirement income that allows you to sleep better at night.

What Am I Doing Now with My Investment Funds:

Looking at the recent pandemic during much of 2021 and part of 2022, and now approaching the end of the 1st-Q of 2023, many dividend-paying entities reflect sizeable market cap per share declines. Just like PIMCO experienced in 2008. One example where I've owned a position since 2018 is Barings BDC, Inc. In January 2019, I shared my first article about Barings--- Is Now the Time to Be Daring and Invest In Barings?

In this initial Barings' article, you will note that the thesis I'm now advocating with this article is that dividend investing with a buy-and-hold approach has merit. The initial dividend that Barings paid out was $0.03 a share. One of their initially stated goals was to create a dividend payable to shareholders of 8%. With their latest dividend declared, the quarterly rate was close to 8%--$0.25 a share. And the good news is that with this substantial steady increase in their dividend, the expanding and well-diversified international portfolio covers the dividend.

The 52-week range has been ($7.41-$10.55), so with the decline in the share price, we see the current dividend rate is around 13%. Based on my assumption that we are near the end of the Federal Reserve hiking interest rates and the current recession will not be a repeat of 2008, I have been buying more shares of Barings at the $7.50 level, where now my annual dividend should produce a return of $10,000.00. One new factor is that management has indicated that the desired quarterly 8% dividend rate will still be their goal. However, they will now seek to pay special dividends when results justify such an event occurring regularly.

The following comments are taken from Barings' recent 4th-Q, 2022, remarks to their investors. What they outline is very supportive of their track record and what they hope they can provide as an enhancement to those who are seeking a generous and stable return for their investment dollars:

"As a result, given the visibility we see in the forward earnings profile, we believe a $0.01 increase in the quarterly dividend is proved. With that strong dividend base, we then seek to further enhance shareholder value through a combination of share repurchases , growing dividend spillover and steady and systematic future special dividends. We have discussed in the past our philosophy that share repurchases must have a role in any long-term capital allocation philosophy. In Q4, we finished the remaining repurchases under the $30 million share repurchase plan approved in connection with the Sierra merger. We are pleased to announce that we have received Board approval for a new share repurchase plan that seeks to purchase up to $30 million of stock over the next 12 months , subject to liquidity and regulatory constraints. Moreover, we will continue to assess this each year to determine the most effective level of buybacks to drive long-term shareholder value."

Caveats:

Seeing two of the most significant bank failures in the history of our national banking system, and the failures that occurred were precipitated by management completely ignoring sound banking principles all because they were seeking short-term gains, should give us a pause in thinking that a bank is too big for allowing it to fail. At some point, we must say NO to bankers who want to be bailed out. Based on the 2008 financial crisis, not one banker was convicted of a crime. And taxpayers paid for the carnage done by the bankers! So when you can see a headline in today's(4/28/2023) New York Times that banners- Feds Slams Its Own Oversight of Silicon Valley Bank Post-Mortem -- we know we have a problem with bankers being able to divert our attention from the real problem.

However, I see the light at the end of the tunnel; we should expect only a slight .25% rate increase by the Federal Reserve next week. The 1st-Q results indicated that our GDP expanded, but not as much as in recent quarterly data. Recent Chinese data indicate their economy has at least turned the corner for their latest results. But overall, the Federal Reserve's efforts to raise rates appear to be taking a bite out of our inflation woes. Hopefully, the pending 2nd Quarter results will make this result more apparent to investors and all citizens.

My thinking and adding to my Barings' position is that locking in a 13% dividend rate for the newly acquired shares gives me some leeway in weathering the potential for the current recession to last a little longer. Next week's unemployment data and Barings' first quarter 2023 results should help clarify where we stand with our economic system. At some point, we as a nation must make difficult decisions about bailing out banks as the solution for inflation. And Washington politicians need to understand-we can't default on our national debt! President Andrew Jackson was the only president that did away with our national debt obligations. He accomplished this feat by refusing to have our federal government funding work projects to stimulate our economy. This action by Jackson made his successor, Martin Van Buren, the most unlucky president in our history, simply because Van Buren inherited a 25% national unemployment rate.

Conclusion Points:

I won't repeat my initial comments in my first article related to Barings' salient business model. Readers of this latest article should use the initial article that outlines what I consider vital data points. Readers should use this article as a starting point to apply their self-directed due diligence before investing in any stock I have mentioned. What I might consider necessary for my investment decisions probably will not be important to some of my readers.

• Barings BDC is an operating unit under the umbrella of Mass Mutual, where they operate worldwide by funding corporations' capital needs.
• In its history, Barings has accomplished the critical objective of creating a dividend funding rate of 8% for its investors. Operating profits have covered this dividend rate, but there are no assurances that the dividend rate coverage will occur in the future.
• My assumption for the future includes my belief that the current recession will be resolved in short order.
• Locking in part of my investment at the current 13% dividend rate, in my opinion, offers me a beautiful potential for enhancing my net worth.
• As we advance, the plans outlined by Barings relate to maintaining the 8% dividend rate every quarter; in the future special dividends will be on the table for increasing the payout to investors.

Good luck with your future investing decisions!

Editor's Note: This article was submitted as part of Seeking Alpha’s Best Investment Idea For A Potential Recession competition, which runs through April 28. This competition is open to all users and contributors; click here to find out more and submit your article today!

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