MAIN - Trinity Capital: Locking In The 'Double Dividend'

2023-09-12 16:44:03 ET

Summary

• Trinity Capital's share offering and the small increase in net asset value per share did not significantly impact our covered call trade.
• The covered calls were closed out, locking in options premium and 'doubling the dividend.'
• Trinity Capital remains a solid long-term BDC, but I would be looking to see a lower price before adding, as shares still trade at a fairly elevated level.
• The good news from the latest quarter is that their portfolio quality has stabilized, and with NII increasing, we should be seeing a bump in their regular dividend announced soon.

Written by Nick Ackerman.

Earlier this year, I highlighted the opportunity for investors to 'double their dividend' with Trinity Capital ( TRIN ). Today, it's time for a short update to tie up loose ends.

A number of things happened since our last update. They announced the share offering that we expected, and they also reported a small bump in the net asset value per share, which is also what we expected: a small increase that wasn't going to materially impact our covered-call position.

While the secondary offering didn't create quite the downward pressure that I had anticipated, shares have continued to languish and move sideways. In fact, since our last update, shares have performed about as flat as could be after two months of market gyrations.

We closed out the covered calls for $0.09. We have effectively locked-in our options premium and the 'double dividend.' This highlights a way that covered calls can help be a complementary investment strategy for income investors.

We originally collected $0.60, bringing in a net premium of $0.51 or 85% of the expected total profit on this trade. We originally entered the trade on July 5th, 2023, and by closing today, the total duration was 68 days compared to the 107 based on the original trade.

Given it was shortened, the potential annualized return ("PAR") based even on the lower premium received against the $15 strike price moved to 18.25% from the original 13.64% PAR.

At this point, one could continue to hold the covered call position and not close it until the expiration. The probability of shares going to $15 or higher by the expiration date is still in favor of it not accomplishing that.

That said, I felt that with most of the profit potential already being locked in at this point, I would go ahead and close it out. We've also still accomplished 'doubling the dividend' in a shorter period of time than we were otherwise looking at when we originally entered the trade.

Share Price Pressured By Share Offering And Small Bump In NAV

While I believe that TRIN is a solid BDC for the long term, it did push it to an elevated premium. The logic was pretty simple: it was nearing a high premium level that it had previously topped out in the past. They were aggressive with share offerings when we hit these levels, and that's exactly what happened.

However, when the share offering was announced, it didn't take quite the hit I suspected it would, admittedly. Part of this was also that the share price ran up right before they announced the offering on August 4, 2023. So, we didn't get quite the opportunity to close out the trade as early as I wanted.

That said, the share price has sort of just moved sideways from then, too, so it wasn't as if we saw a rapid recovery either or a continuation of the upward trend.

The offering was accretive to NAV, as the shares were sold at $14.45, over the NAV. Still, despite it being an accretive offering, investors will still sell off a BDC or REIT whenever one is announced. That often creates a situation worth exploiting. In this case, TRIN still remains on the more expensive side. The accretive offering was noted as one of the reasons for an upgrade from another analyst more recently, too.

We also noted that one of the risks of this trade was that they had their earnings coming up in August.

The second consideration would be what to do if shares continue to rally. Let's say that shares climb to above $15. Well, my expectation is that even if we get a fantastic quarter and NAV rises, it's unlikely to be by a material amount. Remember, with the latest dividend announcement; they paid out a supplemental $0.05. That isn't massive, but every cent paid is a cent that won't be retained, and therefore NAV won't be rising.

The latest NAV they announced was an increase as it went from $13.07 to $13.15. Not a bad result, but basically, it was what we expected as NAV only rose by a small amount. It wasn't any sort of increase that would materially reduce the premium that the shares are currently trading at.

Though we've seen some extreme premiums in internally managed BDCs such as Main Street Capital ( MAIN ); however, they also have a significant history of navigating markets behind them on public display. The current premium to NAV for MAIN comes in at an impressive ~45.5%.

Portfolio Quality Stable With Upcoming Dividend Boost Expected

The last regular quarterly dividend of $0.48 looks like it is set to be raised again, and if history is any guide, it will be announced this week. There is some further room to increase their growing dividend, with the latest quarter showing a net investment income of $0.61 per share. That works out to 127% coverage. The expected raise up to $0.49 would still leave coverage at a comfortable 124.5%.

There were no major disruptions announced from the BDC's underlying holdings, and their internal portfolio rating has now been stable for three quarters in a row.

That further reinforces the expectation that they would be in a position to raise their quarterly dividend once again. This has clearly been one of their strong selling points, increasing for many quarters in a row and sporting a high dividend yield for investors in the first place.

As far as having another supplemental distribution, that's always tough to say. They have the spillover from 2022 that they could look to distribute out , but it isn't gains in the current year that are driving this.

The supplemental dividend had more to do with the '22 spillover than it does with the current operation. So I mean, we’re continuing to grow our dividend, have done so over the last 10 quarters. So we will take a look during the third quarter and determine whether or not we need to do another supplemental dividend simply to pay out the balance of the '22 spillover.

At this point, I wouldn't be too disappointed if they were to retain as much as they can to build NAV back. The last NAV per share was $13.15, but that's still down meaningfully from the $14.62 NAV a year ago.

Conclusion

Writing covered calls and cash-secured put options won't make you rich. However, it can be another great tool that complements an overall rounded portfolio. Today, we highlighted the closing out of the covered call trade on TRIN that we shared earlier this year.

This is only one example specific to TRIN, but it helps highlight how you can take advantage of sharp moves higher in a position you own to potentially 'double your dividend' and bring in that additional cash flow while still remaining long the shares. Of course, with any strategy, there are downsides. If shares of TRIN ran higher by a meaningful amount, the upside could have been capped.

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