Exclusive: Prospect Capital COO Sees BDCs Poised To Profit From Rising Interest Rates

While many of the new post-crisis banking regulations are a thorn in the side of big banks, they are also creating major opportunities for business development companies (BDCs). Benzinga recently had the chance to speak with Grier Eliasek, president and COO of Prospect Capital Corporation PSEC about the benefits that Basel III, the Dodd-Frank Act and other new banking regulations have created for BDCs.

Filling A Void

New banking regulations severely restrict banks’ ability to hold leveraged loans on their balance sheets. According to Eliasek, BDCs are able to step in and take over a part of the financing business that is now off-limits for banks.

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Are These Loans Safe?

Benzinga asked Eliasek if BDC investors should be concerned about the safety of loans that regulators now deem unsafe for banks. “BDCs were created by Congress in 1980 to spur investment in private middle market companies that lack access to the banking and capital markets,” he explained. "As a result, the type of companies BDCs traditionally invest in has not changed materially in light of Dodd-Frank.”

Eliasek noted that Prospect’s net leverage is currently 4.2x, well short of the 6.0x leverage cap imposed on banks by regulators.

Target Loans

When Benzinga asked about the types of companies that Prospect has been targeting lately, Eliasek explained that the firm identifies companies with a stable cash flow, a strong market position and attractive growth potential.

“Our focus remains on senior secured loans, which offer important downside protection. As of June 30, 2015, over 72 percent of our portfolio was comprised of first-lien and second-lien loans, the majority of which was first-lien.”

Rising Rates

When asked about the impact that rising interest rates will have on BDCs, Elsiak said that rising rates will be a blessing for well-positioned BDCs. “BDCs are well-positioned to benefit from a rising interest rate environment given BDC portfolios are primarily floating rate,” he told Benzinga.

In Prospect's case, about 89 percent of interest-bearing assets are floating rate, while about 87 percent of liabilities are fixed-rate.

Disclosure: The author holds no position in the stocks mentioned.