New Mountain Finance, Stellus Capital Downgraded At Baird, 'Fade Small-Cap Banks'

Baird has downgraded Stellus Capital Investment Corp SCM and New Mountain Finance Corp. NMFC to Neutral from Outperform on valuation.

The brokerage said BDC (business development company) valuations have rebounded meaningfully from earlier in the year.

"Up from ~77 percent at the February lows, the sector as a whole currently trades at an average of ~93 percent of NAV/share, which is roughly in line with the five-year average multiple for the sector. YTD, the BDC sector has produced a total return of 10.7 percent vs. 3.5 percent for the SNL SmallCap U.S. Bank index," analyst Bryce Rowe wrote in a note.

Rowe still believes high quality BDCs are set to outperform the community banking over the next several years, citing modest valuations and business models "that appear better suited to withstand the reality of the current interest rate environment."

Meanwhile, Rowe moved to the sidelines on Stellus, as the stock is within a dime his $11 price target.

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"For investors with an appropriate risk tolerance we feel comfortable maintaining positions at current levels as we believe the company's 12.5 percent dividend yield and discounted valuation (83 percent of NAV) present a fairly balanced risk/reward," Rowe highlighted.

Further, the analyst has downgraded New Mountain Finance as the stock has moved over his $13 price target.

However, Rowe would look for opportunities to add to positions on weakness given a likely reversal of some previous portfolio depreciation possible for the second quarter. The analyst said this unrealized portfolio depreciation over the last two quarters has cut the company's NAV/share to <95 percent of its post-IPO NAV/share.

Other Names In The Space

Rowe's top picks in the sector include Fidus Investment Corp FDUS, Main Street Capital Corporation MAIN, Monroe Capital Corp MRCC and Triangle Capital Corporation TCAP.

"We continue to believe these four names are among the best long-term positions in any BDC portfolio given investing and operating models that have preserved capital while generating superior profitability levels," Rowe added.

At time of writing, shares of Stellus fell 1.01 percent to $10.79 and New Mountain Finance dropped 1.94 percent to $13.16.

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