Blackstone Secured Lending (NYSE:BXSL) is a BDC managed by Blackstone (BX) which came public in October of 2021 at $26.15 per share (equal to its NAV at the time). After factoring in dividends (and special dividends) received, the total return has been -4% which compares favorably to the broader equity market (SPY total return -14% since BXSL IPO).
With a low leverage profile and positive exposure to rising interest rates, I think BXSL has a positive risk reward for income oriented investors. Further, as I outline below, I think the company is well positioned to weather an economic storm.
Positives
There are many things to like about BXSL, including:
- BXSL is managed by Blackstone the world’s largest private equity firm and has unparalleled access to deal flow which is an ongoing source of opportunity for BXSL.
- 100% of the loans made by BXSL are floating rate – this means that BXSL benefits from the rise in interest rates. There is a slight lag between rate increases and an increase in BXSL’s earnings – for instance third quarter results do not yet reflect the full benefit from rising interest rates. While BXSL earned $0.80 in the third quarter, on the company’s third quarter conference call, management noted that earnings would have been $0.90 (+12.5%) at the (then) prevailing interest rate:
Note that Libor has since increased another 100 bps suggesting quarterly earnings could be in excess of $1.
- Strong probability of dividend increase and special dividends. As mentioned above, I expect BXSL could earn $1 per quarter in the current interest rate environment. BXSL is structured as a BDC which means that it is required to pay out 90% of net income. This would allow the company to return $3.60 per share to shareholders (versus $2.40 annual regular dividend).
- BXSL has relatively low leverage at just 130% of equity (versus 200% median for large cap BDCs as shown above). Should BXSL incur losses in its loan book, it won’t have an outsized impact on NAV. Further, 58% of BXSL’s debt outstanding have fixed rates (fixed rate debt has an average cost below 3.0%) so while BXSL’s assets are benefitting from higher rates, its cost of funds is less impacted, increasing its spread and earnings.
- While BXSL lends to leveraged firms, the loan to value (‘LTV’) is just 47% which means that there is a large cushion (values have to decline more than 50%) before BXSL shareholders incur a loss.
- As shown below, BXSL lends primarily to companies with high levels of recurring income and which should fare well in an economic downturn.
Risks/Downside analysis
As is always the case in lending, the risk is not getting paid back. As we sit today, the loan book is performing quite well:
As the economy seems poised for a recession, it is a matter of when, not if, BXSL starts to experience lending losses. Fortunately, the company is well positioned to weather any losses given that
- pre-provision income is elevated due to higher interest rates
- active plan whereby BX works with borrower to improve operations – further Blackstone’s relationships should help mitigate loan losses
- as previously mentioned, BXSL has low leverage so loan losses shouldn’t have an outsize impact on NAV.
In thinking through what loan losses might be in a tough economy, I’d note that peak annual leveraged loan loss rates during the 2008-2009 financial crisis were 5-6%. One way to think about a 6% loss rate assumption is 10% defaults across the portfolio and 40% recoveries. In a severe recession, BXSL may cut its dividend (depending on whether losses are recognized in a couple of quarters or spread out over a few years). A less draconian recession scenario would be defaults of 5% and ~50% recoveries leading to a 2.5% annual loss rate. Deducing 2.5% loss rates ($1.50/sh) from $1 of quarterly earnings power ($4/annual run rate) would allow the company to continue to pay its dividend through a regular recession.
Valuation/Expected Return
I see no reason why BXSL should trade below its $25.75 per share NAV. This implies 14% upside. In addition, in the absence of a severe recession, shareholders will collect dividends of $2.40 (and as mentioned above, this is likely to be higher without a recession/ loan loss provisions). So in addition to the 14% upside to NAV, I expect to collect a nearly 11% annual dividend yield. Assuming it takes two years for BXSL to trade up to NAV, this would be an annualized total return of 17-18%.
Conclusion
With a low leverage profile and positive exposure to rising interest rates, I think BXSL has a positive risk/reward for income-oriented investors.
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