Barings BDC - Q3 2022

Transcript

Operator (participant)

At this time, I would like to welcome everyone to the Barings BDC, Inc. conference call for the quarter ended September 30th, 2022. All participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. If anybody should need operator assistance, please press star zero on your telephone keypad. Today's call is being recorded and a replay will be available approximately two hours after the conclusion of the call on the company's website at www.baringsbdc.com under the Investor Relations section. Please note that this call may contain forward-looking statements that include statements regarding the company's goals, beliefs, strategies, future operating results and cash flows. Although the company believes these statements are reasonable, actual results could differ materially from those projected in forward-looking statements.

These statements are based on various underlying assumptions and are subject to numerous uncertainties and risks, including those disclosed under the sections titled Risk Factors and Forward-Looking Statements in the company's annual report on Form 10-K for the fiscal year ended December 31st, 2021, and two quarterly reports on Form 10-Q for the quarter ended September 30th, 2022. Each as filed with the Securities and Exchange Commission, Barings BDC undertakes no obligation to update or revise any forward-looking statements unless required by law. At this time, I will turn the call over to Jonathan Bock, Chief Executive Officer of Barings BDC. Please go ahead, sir.

Jonathan Bock (CEO)

Thank you, operator, and good morning, everyone. We appreciate you joining us for today's call. Please note that throughout today's call, we'll be referring to our third quarter 2022 earnings presentation that's posted on the investor relations section of our website. I'm on the call today joined by Barings Co-Head of Global Private Finance and President of Barings BDC, Ian Fowler, Barings Head of Capital Solutions and Co-Portfolio Manager, Bryan High, and the BDC's Chief Financial Officer, Jonathan Landsberg. As is customary, Ian, Bryan, Jonathan, and I will review details of our portfolio and third quarter results in a moment. I'd like to start off with some high-level comments on the quarter. Let's begin with the market backdrop shown on slide five of the presentation.

In a market where the unprecedented pace of interest rate hikes elevates volatility in both leveraged loans and BDC equity, Barings BDC continued to generate consistent, stable economic results. Jump to the third quarter highlights on slide six. Net asset value per share was $11.28, compared with our prior quarter of $11.41, down approximately 1.1%, driven primarily by unrealized write-downs tied to macro market factors and spread widening, as opposed to fundamental credit-related factors. Our net investment income was $0.26 per share, compared to $0.29 per share last quarter, impacted by sales and repayments that occurred early in the quarter, as well as a partial income incentive fee capped by our shareholder-friendly fee structure, which includes realized and unrealized gains and losses.

Turning to new investments, we had gross originations of $234 million in the third quarter, primarily funding later in the quarter, and this was offset by $241 million of sales and prepayments for a net portfolio decline of $7 million. Our investment portfolio continued to perform well in the third quarter, including the acquired Sierra and MVC assets. Our total non-accruals are 2.8% of the portfolio on a cost basis and 0.7% on a fair value basis, all assets that are covered by our Credit Support Agreement. Now turning to forward earnings power, the increase in base rates has increased the weighted average yields on our middle market and cross-platform investments to 8.9% and 9.6% respectively.

We expect additional revenue contribution as we continue to gradually increase leverage within our target range. With that as our frame of reference, we expect fourth quarter net investment income of at least $0.27 per share, with further expansion into 2023. Additionally, our board declared a fourth quarter dividend of $0.24 per share, equating to an 8.5% yield on our net asset value of $11.28, which matches our industry leading hurdle rate. I'll have Jonathan Landsberg provide additional detail on our approach to dividend policy later in the discussion. Slide seven outlines summary financial highlights for the previous five quarters.

As I mentioned, continued strong investment performance drove total investment income slightly higher quarter-over-quarter to $56 million, though the percentage increase in total revenue was muted by, one, earlier portfolio sales and repayments in the third quarter. Two, later than anticipated fundings. Three, non-recurring $2 million revenue in the second quarter tied to a large distribution from a CLO in wind down. Looking forward, as the impact of base rates drives total portfolio yields higher, we anticipate total investment income to be in excess of $60 million. Below the line, net unrealized appreciation of $26 million was primarily a result of mark-to-market on our assets as a result of higher credit spreads.

This unrealized depreciation had a positive impact on net investment income. As Barings incentive fee cap curtailed the quarterly incentive fee, further lowering expenses and elevating NII in the quarter to $0.26 per share. Now turning to liquidity. Net leverage, which is leverage net of cash, short-term investments in unsettled transactions was 0.99x, which is currently toward the lower end of our target range of 0.9x-1.25x. This attractive liquidity position allows us to remain steady partners with our existing sponsor clients, as well as look towards new investment opportunities that present themselves in the face of current economic uncertainty. Now looking forward, we believe the investment environment to be ripe with opportunity.

The delayed impact of increasing rates will continue to work its way through private markets, with many credit stresses yet to come, some of which are starting to arrive. Now that said, the ability of a manager to prosecute those opportunities will be directly correlated to how well they deployed capital in 2021. Our diverse portfolio approach and best-in-class level of investor alignment positions us well for both current and future market conditions, and we remain poised to take advantage of the current market. With that, I'll turn the call over to Ian to provide an update on the market and our investment portfolio.

Ian Fowler (President and Co-Head of Global Private Finance)

Thanks, Jon, and good morning, everyone. If you turn to slide nine, you can see additional details on the investment activity mentioned previously. Our middle market portfolio decreased by $14 million on a net basis in the quarter, with gross fundings of $163 million offset by sales and repayments of $176 million. New middle market investments include 16 new platform investments totaling $116 million and $47 million of follow-on investments in delayed draw term loan fundings. We also had $51 million of net cross-platform investments in the quarter. We continue to remain active in our realizations and sales at both MVC and Sierra, and this quarter generated $44 million of liquidity via sales pay downs and prepayments.

Slide 10 updates the data we show you each quarter on the middle market spreads across the capital structure. Clearly investment spreads across public and private asset classes have widened. Most important, public market spreads now meaningfully exceed those of private middle market loans. This has two effects. On one hand, the illiquidity premium or the extra spread to take a deal private to loan investors remains much smaller than in the past. On the other hand, the relative attractiveness of the direct lending solution in today's marketplace for private equity sponsor is very high and more reliable. This relative attractiveness of direct lending loans can be shown on slide 11. Notice the current market clearing price for new issue leveraged buyout debt has averaged in the mid- to low-$90 milions, making the cost to issue and create this paper by banks and sponsors uneconomical.

We expect this trend to continue given market uncertainties, which bodes well for future capital deployment across our origination footprint. A bridge of our investment portfolio from June 30th-September 30th is shown on slide 12. On slide 13, you will see a breakdown of the key components of our investment portfolio as of September 30th. As we have discussed in the past, the goal of this slide is to provide details on the key categories of our portfolio, which are the Barings originated middle market portfolio, the legacy MVC Capital and Sierra Income portfolios as well as our cross-platform investments. The middle market portfolio remains our core focus and makes up 56% of our portfolio in terms of total investments at fair value and 54% of our portfolio in terms of revenue contribution.

Our Barings-originated middle market exposure is heavily diversified among obligors of 211 portfolio companies with a geographic diversification across the U.S., Europe and APAC regions. The underlying yield at fair value on our middle market investment portfolio of 9.2%, up from 7.9% last quarter and weighted average first lien leverage of 5.2x remain reflective of our boring is beautiful approach to credit. In addition to our middle market exposure, we continue to draw upon Barings-wide investment frame of reference to complement our core portfolio with $374 million of investments in the legacy MVC and Sierra portfolios and $652 million of cross-platform investments. To date, we have realized approximately $164 million in capital from both transactions and continue to drive realizations in today's environment.

Turning to credit, two MVC assets and five Sierra assets remain on non-accrual. The total number of non-accrual loans is unchanged from last quarter, though one Sierra loan came off non-accrual as it was sold while one new loan was added with a cost of $600,000. Additionally, subsequent to quarter end, we placed our debt investment in Core Scientific on non-accrual as the company undergoes a restructuring. With that position representing 1.2% of the portfolio cost. Slide 14 provides a further breakdown of the portfolio from a seniority perspective. The core Barings originated portfolio is 72% first lien. Note the combined MVC Sierra portfolios are comprised of senior secured, second lien, mezzanine debt and equity investments, which brings the first lien component of the total portfolio down to 67%. Our top 10 investments are shown on slide 15.

Our largest investment is 5.9% of the total portfolio, and the top 10 investments represent 23% of the total portfolio. Recall our largest investment, Eclipse Business Capital, is backed by a large portfolio of asset-backed loans conservatively structured inside of the collateral net liquidation value. The Eclipse portfolio remains diverse from an industry perspective as well, with 44 investments spread across 17 industries. I'll summarize my market comments with a simple thought that preparedness for stress in today's market looks entirely different than it did in past cycles. EBITDA growth for portfolio companies once thought always to be secular phenomenon will become more challenging. Expected acquisitions synergies on deals may not materialize. Emphasis which was once focused on growth and total addressable market will now quickly shift to cash flow and liquidity.

In short, the investment and social norms learned over the last 40 years will need to be unlearned, and this learning process will favor those with investment discipline and long institutional memory, deploying capital in inflationary environments. At Barings, across our wide investment frame of reference, we demonstrate both. I'll now turn the call over to Jonathan to provide additional color on our financials.

Jonathan Landsberg (CFO)

Thanks, Ian. Turning to slide 17, here's the full bridge of the NAV per share movement in the third quarter. Our net investment income exceeded our dividend by $0.02 per share. Share repurchases added another $0.02 per share. Net realized gains drove an increase of $0.07 per share, while our unrealized appreciation totaled $0.24 per share. Additional details on this net unrealized depreciation are shown on slide 18. Of the total $26 million unrealized depreciation in the third quarter, approximately $19 million was due to price or spread moves. The cross-platform portfolio contributed $11 million of the total price-driven depreciation, primarily tied to the more liquid investments such as situational BSLs or select mortgage assets.

Notably, the legacy MVC portfolio saw total depreciation of $6.5 million tied to underlying credit performance, while the Sierra portfolio had total depreciation of $7 million, $3 million of which was due to price movements predominantly tied to CLO equity positions in the Sierra JV. Near the bottom of slide 18, you can see that the credit support agreements increased $3 million as a result of investment marks. Slides 19 and 20 show our income statement and balance sheet for the last five quarters. Our net investment income per share was $0.26 for the quarter, driven by generally stable total investment income as mentioned earlier by Jon, combined with a capped incentive fee resulting from unrealized marks on the investment portfolio. From a balance sheet perspective on slide 20, total debt to equity was 1.12x at September 30th.

Although this level was elevated due to high quarter and cash balances in unsettled JV sales. Our net leverage ratio was 0.9x after adjusting for cash and unsettled transactions, and we view this measure as more reflective of the true leverage position of the vehicle. Turning to slide 21, you can see how our funding mix ties to our asset mix, both in terms of seniority and asset class. Compared to the end of 2020, our reliance on secured bank debt has decreased with the issuance of $725 million of unsecured debt in both the public and private markets as we have continued to diversify our liabilities to match our diverse portfolio of assets. Details of each of our borrowings are included on slide 22, which shows the evolution of our debt profile over the last year.

As of quarter end, over half of our funding was comprised of fixed rate unsecured debt with a weighted average coupon of 3.79%, and we have nearly three years until the next bond maturity. Turning to slide 23, you can see the impact to our net leverage of using our available liquidity to fund our unused capital commitments. Barings BDC currently has $232 million of unfunded commitments to our portfolio companies, as well as $67 million of remaining commitments to our joint venture investments. We have available cushion against our leverage limit to meet the entirety of these commitments if called upon, as well as over $400 million of available capacity on our revolving credit facility. Slide 24 updates our paid and announced dividends since Barings took over as the advisor to the BDC.

As Jon mentioned earlier, the board declared a fourth quarter 2022 dividend of $0.24 per share, an 8.5% distribution on net asset value. Looking forward, we anticipate that strong portfolio performance will sustain BBDC's earning power above our $0.24 per share dividend. It begs a very important investor question. Why not pay out that increased income? To best answer that question, we outline our emphasis on margin of safety. Recall, Barings BDC operates under a best-in-class fee structure highlighted by our industry-high hurdle rate of 8.25% and a willingness to align the NOI incentive fee to credit performance, both realized and unrealized.

As a result of aligning our dividend with our hurdle rate, Barings insulates the regular dividend distribution, which is 8.5% on NAV and 10.5% on a market price basis with the incentive fee. Said differently, in the event of future unrealized or realized losses or the loss of income due to credit stress, the manager bears the cost via a lower incentive fee. In our view, this feature creates a very strong and resilient dividend yield profile that is less dependent on elevated base rates. With that strong dividend base, we then seek to further enhance shareholder value through a combination of share repurchases, growing dividend spillover, and steady and systematic special dividends. It is that consistent long-term approach, combined with significant investor alignment and margin of safety, that we believe drives down BDC yield risk premiums over time.

Turn with me now to slide 26, which shows a graphical depiction of relative value across the triple-B, double-B, and single-B asset classes. As Ian outlined, we saw wider spreads in the quarter across nearly all asset classes as a result of increased fears of stagnation or stagflation. Slide 27 outlines the premium spread on our new investments relative to liquid credit benchmarks. Notice that our investment illiquidity premiums in the third quarter remained low for middle market transactions given the current BSL market dislocation. That said, in our cross-platform exposures, we've seen meaningful widening relative to liquid benchmarks.

Excluding certain equity investments, Barings BDC deployed $232 million at an all-in spread of 931 basis points, which represents a 284 basis point spread premium to comparable liquid market indices at the same risk profile. I'll wrap up our prepared remarks with slide 28, which summarizes our new investment activity so far during the fourth quarter of 2022 and our investment pipeline. The pace of new investments remains steady compared to the last two quarters, with $131 million of new commitments, of which $103 million have closed and funded. Of these new commitments, 95% are in first lien senior secured loans, 23% are in cross-platform, and 20% are European or Asia Pac originations. The weighted average origination margin, or DM+3, was 8.2%.

We've also funded approximately $7 million of previously committed delayed draw term loans. The current Barings global private finance investment pipeline is approximately $1.8 billion on a probability weighted basis and is predominantly first lien senior secured investments. As a reminder, this pipeline is estimated based on our expected closing rates for all deals in our investment pipeline. With that, operator, we will open the line for questions.

Operator (participant)

Thank you. If you would like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up the handset before pressing the star keys. Please ask one question and one follow-up question. Our first question is from Finian O'Shea with Wells Fargo. Please proceed.

Finian O'Shea (Director and Senior Equity Research Analyst)

Hi, everyone. Good morning. Mr. Landsberg, appreciate your commentary on the dividend policy there and preference toward margin of safety and so forth. Can you talk about the spillover that would, you know, in the event you eventually do generate a lot of spillover if LIBOR stays high or goes up and there's still good credit, you know, into next year, what you would prefer to ultimately do with that spillover in the event it does build up? Would it be, you know, maybe a higher base dividend a few quarters from now or something like specials or supplementals?

Jonathan Landsberg (CFO)

Yeah. Thanks, great. Thanks, Finn. It's a great question. I think our preference here is to leave the base dividend set at our hurdle rate. We think the margin of safety that provides is really important. If you look ahead, first, we do have quite a bit of available spillover to build. But we're really kind of employing all of the above approach to how we think about distributing that money. It's really a combination of continued share repurchases, retaining some of the earnings to reinvest, because we believe now is a really good time to be reinvesting in this environment. But also supplementing that with, you know, fairly systematic one-off dividends or one-time dividends, special dividends to ensure we're staying in compliance with all of the required risk rules.

Finian O'Shea (Director and Senior Equity Research Analyst)

Great. That's helpful. All for me. Thanks so much.

Jonathan Landsberg (CFO)

Thanks, Finn.

Operator (participant)

Our next question is from Kyle Joseph with Jefferies. Please proceed.

Kyle Joseph (Managing Director)

Yeah. Hey, good morning, guys. I appreciate the prudent approach of aligning the dividend with the incentive fee. You know, given the timing of this, should we read this as a sign of you guys kind of battening down the hatches, or is it just more conservatism overall? Just, you know, weighing that versus, you know, some of your peers which have kind of increased their distributions more consistent with kind of the rate curve.

Jonathan Landsberg (CFO)

Sure. Hi, Kyle. It's Jon. I wouldn't say it's a batten down the hatches approach. I'd start with how we normally look at things, which is investor alignment. Our view is the earnings power and profile of the portfolio will continue to increase. What's appropriate is to always look at the ability to build a best-in-class stable dividend profile aligned with your investment performance. That is what's unique to us. Of course, at the same time, you can see us continue to drive additional equity value through reinvestment in our own portfolio and through repurchase of shares because now is an attractive time to do so.

Kyle Joseph (Managing Director)

Got it. That's very helpful. Yes, like I said, I do definitely view the approach as prudent, particularly in this environment. Ian, I appreciate all the color you provided on the originations environment. You know, as we step back and look out into 2023, obviously you guys have a tremendous amount of dry powder to deploy, more macro volatility, kind of fewer LBO transactions. You know, how are you thinking about the level of potential originations in 2023 and then weighing in kind of behavior of peers in the competitive environment and any changes you've seen there recently?

Ian Fowler (President and Co-Head of Global Private Finance)

Yeah. Thanks, Kyle. There's a lot there to unpack. I think, you know, 2023 will be similar to 2022 for us, which is, you know, quite frankly, when you look at the market and the properties that were coming to market, you know, overall volume was down obviously compared to 2021, which was expected because it just wasn't sustainable. Quality was kind of choppy. The benefit of being a large platform and having a large portfolio is you get to reinvest in your portfolio companies. I would say, you know, the percentage of origination coming from the portfolio has increased dramatically this year, and I would expect the same next year. You know, especially as private equity firms are trying to discover what's gonna happen on the valuation side.

You know, like this year we're, you know, our origination is basically 60%-70% coming from the portfolio, which is great because it's going into companies we know well. It's helping those companies become larger, helping them consolidate industries, becoming stronger competitors, more defensible, better credits, more diversified and greater scale. You know, in terms of origination, I think that's where it's gonna come from. You know, I think you have to, in our approach, it's definitely not batten down the hatches, but it's definitely prepare for the worst because, you know, none of us have a crystal ball, and hope for the best.

From a liquidity standpoint, you know, we're very much focused on making sure that we have capital to support our portfolio through a downturn, first and foremost from a defensive perspective. Of course, having capital to take advantage of opportunities because, you know, having done this is my third decade in this asset class, it's really coming out of a conventional recession, if we have one, that you see the best opportunities in the marketplace. You know, we wanna be well positioned to take advantage of those opportunities. Did that answer your question?

Kyle Joseph (Managing Director)

That's great color. Thanks a lot for answering my questions.

Ian Fowler (President and Co-Head of Global Private Finance)

Yeah, cool.

Operator (participant)

Our next question is from Ryan Lynch with KBW. Please proceed.

Ryan Lynch (Managing Director)

Hey, good morning, guys. Hey, first question I had is just I'm trying to understand what's going on in Thompson Rivers. That investment has been written down $5 million or so sort of every quarter in 2022. When I look at the portfolio there, the portfolio has been shrinking pretty dramatically. It's about a third of the size it was sort of at the beginning of the year, and the fair value is much lower than the cost there. You know, I would assume that rising rates on that mortgage book is not helping. I'd just love to hear fundamentally what's occurring in that underlying portfolio of Thompson Rivers, and is it the plan. The portfolio is shrinking, is that by design? Are you guys shrinking that sort of JV?

What is the expectation for that going forward?

Jonathan Bock (CEO)

Sure, Ryan, this is Jon. You can outline that given the investment in mortgages granted very short duration, it was really a targeted profile to provide liquidity effectively to certain mortgage servicers to where we would invest in early buyout mortgage originations, allow those to return, which are effectively FHA loans, which have a 100% government guarantee. When the underlying obligor returned to paying status, we would be able to resubmit back to the pool. Believe it or not, the credit performance of the underlying mortgages are strong. They continue to reperform, right? As the consumer returns back and we get to collect the back interest. You have a time profile where the increase or rapid increase in rates push down the value, fair value slightly, right?

To the point now where you start to look at what we've invested and what we've pulled out in the form of dividends effectively matched. It's been a strong income provider. Our expectation was to now look at that, recognizing that that environment, right? Particularly with mortgage services now, with situations where they would not be looking to sell the underlying mortgage books that they have at depressed prices, you just wind it down. You'll see us effectively return our capital and match that dollar for dollar and then Ryan redeploy that. Our view is, while it provided a strong earning avenue, we also recognize in the current environment you can redeploy that, and put it to more productive use at wider spread.

Ryan Lynch (Managing Director)

Okay. That now will be the expectations that will wind down.

Jonathan Bock (CEO)

It goes pretty quick too, Ryan.

Ryan Lynch (Managing Director)

Yeah.

Jonathan Bock (CEO)

You know, interestingly, that's why they're very liquid and you know very rapidly reperforming assets, which is why you're able to reposition that and get very, very close to your cost basis over time, particularly when you consider the dividends paid, and then redeploy that into corporate credit opportunities now which have gapped out even wider.

Ryan Lynch (Managing Director)

Yeah. Okay. Understand. Maybe following up, this is maybe for just more on kind of the market opportunity and how you guys are positioning the portfolio today. I mean, kind of in a simplistic way, the market opportunity has increased. The quality of deals in the market have increased substantially, but the outlook for the economy has also become significantly more shaky. In this environment, obviously, deal flow generally is down quite a bit because of those two factors. Is it your anticipation that you guys would like to be a net grower of your portfolio today, pending the market opportunities are there to deploy the capital, or do you guys wanna sit sort of at this current leverage range in anticipation for further dislocations in the marketplace and the economy?

Ian Fowler (President and Co-Head of Global Private Finance)

Well, hey, Ryan, it's Ian. Maybe I'll start with the market, and then I can throw it over to Jon and Jon to talk about, you know, the capital side of it. You know, like I said, I mean, yeah, the terms today are getting better, right? Spreads are wider, leverage has come down, structural protection is definitely better. Again, I think when you look at what's happening in the market, right, between buyers and sellers of assets, we're going through this discovery because people don't know exactly what's gonna happen overall with valuations. I mean, the reality is, just given the increase in rates, the debt quantum's gonna have to decline, and that's gonna change.

You know, either sponsors are gonna have to put more equity in or valuations are gonna have to come down. You know, I would say that unless there's something very unique to a certain transaction, the properties in today's market just aren't really great properties. Our view is that the risk return on those investments are less attractive than supporting our portfolio. Because again, that's putting money to work with good market terms and ultimately making our portfolio more bulletproof as we go through this economy. That's kind of what we're focused on. Again, I think, you know, like I said, as we start to get through this, whatever this dislocation's gonna look like, right? The one, you know, having been through many cycles, the only thing in common is the beginning and the end.

It's the middle that's different. We don't know how the middle is gonna play out here, so we wanna be flexible to figure out where those opportunities are. We're definitely willing and focused on taking advantage of those opportunities. You know, on the middle market side, it's gonna be looking for, you know, sellers that are of good assets that need liquidity. On the cross-platform side, it may be more opportunistic situation. You know, we wanna be well positioned for those as they appear. That's our focus.

Jonathan Bock (CEO)

Ian put it really well, Ryan. I think it might be if you look on 27, when we start to look at the risk premiums that are available, right? Clearly, the stress or slight distress that exists inside of liquid assets has really limited the middle market premium. That doesn't mean you won't find good assets. You can. If you can see some of the situational opportunities that we'll find, I'll just lob it over to Bryan for a quick item. You can see in some of the certain cross-platform opportunities where those spreads relative to what you could find in the liquid market have already gapped out sufficiently wide. Bryan?

Bryan High (Head of Capital Solutions and Co-portfolio Manager)

Yeah. I mean, if you think about what the cross-platform part of the portfolio provides, we're really looking for something that complements traditional direct lending. You know, even in this quarter, Bridger Aerospace is a great example of something where we're out there looking to be selective in opportunities that we think have a unique risk profile that is a little less correlated to you know, the overall general economy. That's a company that is growing a fleet of Super Scooper aircraft to deal with forest fires, which again, I don't think that's you know, as correlated to the general economy as you know, maybe a traditional corporate borrower. Those types of opportunities are where we're looking to deploy capital and find unique risk-adjusted return, again, to complement kind of that broader book.

Ryan Lynch (Managing Director)

Gotcha. Makes sense. I appreciate the time today.

Operator (participant)

Our next question is from Casey Alexander with Compass Point. Please proceed.

Casey Alexander (Managing Director and Senior Equity Analyst)

Yeah, thank you. Most of my questions were answered, but I do have one. Are you saying that the difference between the cost and the fair value for Thompson is just rate driven and will climb back to cost as they repay? Credit is still good. This is just a mark to market.

Jonathan Bock (CEO)

Credit is still good. Casey, also as base rates effectively rise and mortgage spreads rise, once we have the asset and it's re-performing, we effectively own a lower rate mortgage coupon. When you submit it back to the pool and you sell it back to the FHA, they're gonna buy it back at the market price, which is now lower. Really in totality, when you think of all the income, you'd be re-pooling at a slightly slight loss, which still nets with your income, you know, at a general attractive return.

Right now it's not one that you could sit and hold it for a long time, but if you did so, you'd be earning something that would be lower than what you'd be getting on a middle market loan, which is why we start to wind it down.

Casey Alexander (Managing Director and Senior Equity Analyst)

Okay. Thank you.

Operator (participant)

We have reached the end of our question-and-answer session. I would like to turn the conference back over to Jonathan Bock for closing comments.

Jonathan Bock (CEO)

Thank you so much for joining us today, and we are very, very thankful you all participated on the call, and we wanna wish everybody a happy Veterans Day and wanna thank folks for their service. Thank you very much for joining.

Operator (participant)

Thank you. This does conclude today's conference. You may disconnect your lines at this time, and thank you for your participation.