Sometimes a good investment opportunity can slip through the cracks. This may be the case with a new IPO, which now trades with an estimated yield of roughly 8.6% per year.
Meet American Capital Senior Floating Rate, Ltd. (NASDAQ: ACSF), a high-yield business development company that went public just last week.
The nitty-gritty details
American Capital Senior Floating Rate is an investment fund of sorts, which invests in non-investment grade, large-market loans from companies that earn less than $100 million in earnings before interest, taxes, depreciation, and amortization (EBITDA). These loans are primarily written to finance buyouts, bolt-on acquisitions, or expansion efforts.
Leveraged loans, which carry floating rates, will make up 80% or more of the fund's assets. The remaining portion is reserved for higher-yield, collateralized loan obligations. In the prospectus, the company notes that its existing portfolio yields a combined 6.5%. When leveraged with low-cost debt and after all management fees, the actual dividend yield to the investor could be as high as 7.8% per year on net asset value.
Fortunately for new investors, the post-IPO performance was lackluster, with shares opening at just more than $13 per share. After only minor gains, the stock trades at an 8% discount to net asset value, meaning investors should expect an annual dividend yield of about 8.6% per year based on estimations in its SEC filings.
The management team behind the fund
The asset management arm of American Capital Ltd. (NASDAQ: ACAS) will manage the new high-yield BDC. American Capital also manages high-yield mortgage REITs, including American Capital Agency and American Capital Mortgage.
The floating rate fund won't invest in mortgages, however. The key ingredient to the high yields of American Capital Senior Floating rate is its CLO investments, which, according to the prospectus, currently yield more than 14% per year, bringing up the average asset yield.
The management team has a great track record with CLOs. The latest American Capital shareholder presentation reveals that its structured credit division has earned 17% returns on its collateralized loan obligations since inception. If similar returns spill over to the floating rate fund, investors would be handsomely rewarded.
Why floating rate loans?
Floating rate loans were a very hot investment in 2013, raking in more than $50 billion of capital. Since interest payments on floating rate funds rise with interest rates, they tend to be more stable in periods of rising interest rates.
Floating rate loans aren't without their risks. Remember, these aren't investment-grade bonds. They're more speculative loans, resulting in greater default risk. And in recent months, credit quality in the leveraged lending has declined, with lenders receiving fewer protections. It's worth noting, however, that greater than 75% of assets are currently invested in lower-risk, first-lien loans. First-lien loans are the first to be repaid in the event of a default by the borrower.
The bottom line: At a price under net asset value, American Capital Senior Floating Rate might be attractive to yield-seeking investors who want minimal interest-rate risk given its expected yield in excess of 8.6% per year.