BDCs Are Selling Investment-Grade Bonds Again After a Frozen Quarter

The big concern with business development companies (BDCs) in 2026 has been credit quality. Notably, several large private credit funds have limited withdrawals this year, including Blackstone's (NYSE: BX) Blackstone Private Credit fund, an industry giant. But concerns among investors may be waning, as evidenced by Barings BDC (NYSE: BBDC) issuing $350 million in debt. What does this really mean for the BDC sector?

How does a BDC make money?

Business development companies make loans to smaller companies that don't otherwise have access to capital. The BDC is supposed to provide guidance to the companies it lends to, in addition to loans. To fund the loans, the BDC must have capital of its own. A BDC can raise its own capital by either issuing stock or taking on its own debt. Essentially, the BDC is attempting to make the difference between its cost of capital and the interest it charges on the loans it makes to other companies.

Image source: Getty Images.

The average interest rate Barings BDC charged in the second quarter was 9.4%. The debt it just issued carried an interest rate of 6.5%. BDCs can charge high rates because the companies they work with don't have more attractive options.

Being able to charge such high yields isn't unusual at all. For example, Blue Owl Capital (NYSE: OBDC) had an average interest rate of 9.9% in the second quarter. Main Street Capital's (NYSE: MAIN) portfolio had an effective yield of 10.2%. Ares Capital Corporation (NASDAQ: ARCC) had an average interest rate of 10.3%.

What kind of debt did Baring BDC issue?

So, from a business standpoint, BDCs' ability to issue new debt is a positive. It allows the companies to continue making new loans to expand their portfolios. And Barings BDC was able to issue debt at a reasonable rate. However, there's something interesting about the Barings BDC debt issuance: it had a fixed interest rate and maturity. That's not unusual for a bond, but BDCs often use lines of credit to fund the loans they make. Barings BDC is using the proceeds from the bond issuance to pay down its lines of credit, effectively locking in a rate and maturity.

This is important to note because lines of credit can be terminated by lenders, whereas bonds can't, and lines of credit often have variable rates. This move could potentially help Baring BDC avoid a credit crunch if market conditions turn against it. Such an event could be caused by its portfolio loans facing payment issues, or simply by Baring BDC's own lenders becoming more risk-averse.

The risk for Baring BDC, and any other BDC that issues similar debt, is that the interest rate is locked in. BDCs often use variable rates when making loans to small companies. If rates fall, the interest they generate from their loan portfolios could be squeezed if they have material fixed-rate debt backing those loans. Of course, if rates rise, as some expect, the opposite would occur, and the yield spread would widen. But rates fluctuate over time, so the impact wouldn't be unidirectional.

Don't overthink the good news

There are a lot of moving parts here, but the positive of this issuance is that Barings BDC was able to do it at all. There have been a couple of other BDCs that have also issued debt recently, as well. And that means that the credit worries that had been hampering BDCs may have passed. This is good news. However, don't ignore the finer details here, as they could become more meaningful in the future if the Federal Reserve makes rate changes to address elevated inflation.

Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Ares Capital and Blackstone. The Motley Fool has a disclosure policy.