Recent quarterly results at private credit firms seem to have reassured investors, and the shares of some listed credit funds are up 10% this month. That's even true for Blue Owl Technology Finance, a $15 billion fund focused on lending to the sort of tech companies that are giving Wall Street the night frights.
At its current price of $11.45, the Blue Owl tech fund -- widely known by its ticker OTF -- still trades at a 31% discount to its portfolio's latest valuation. That's because 70% of the OTF portfolio is made up of loans to the kind of software businesses that many fear will get disrupted by new artificial intelligence tools.
"We recognize that OTF's market valuation has not reflected the underlying performance of the fund, and we are disappointed by that disconnect," CEO Craig Packer said on last week's earnings call.
He told listeners that the stock's valuation is effectively pricing in a scenario where 40% of the portfolio defaults and OTF recovers only half of those loans.
Packer and his colleagues say those fears don't reflect the fund's credit performance, where only 0.1% of loans aren't accruing interest. That's better than many peers. At Blue Owl's bigger listed fund, Blue Owl Capital Corp., non-accruals are 0.8% of the portfolio's fair value. And at Blackstone Secured Lending Fund, non-accruals are 1.8%.
One reason that OTF's borrowers can stay current may be the relatively high portion of its deals that allow for the noncash payments known as payments-in-kind, or PIK. Such deals accounted for 12.5% of June quarter investment income at OTF. That compares with 7% at the Blackstone fund.
But Blue Owl says its loans are good because it chooses strong borrowers.
"We have seen minimal signs of material disruption attributable to AI across the broader portfolio," OTF President Erik Bissonnette told listeners.
And yet the Blue Owl tech fund still trades at that 30%-plus haircut from its NAV, compared with just a 5% discount for the Blackstone fund. OTF's discount means that its latest quarterly dividend payout of 35 cents per share -- plus a five cent special dividend -- amounts to a 14% yield.
If that yield seems hard to resist, you should also know that OTF's earnings aren't covering the dividend -- especially if you account for the portion of earnings that come from noncash PIK income.
Packer told investors that OTF expects its income will be able to cover its dividend by the middle of next year. The fund is buying back stock. Its banks all recently renewed its revolving credit facility, which will let it increase the fund's leverage and boost its return on equity.
With a portfolio of software loans, OTF will be a sensitive test of whether investors are too fearful about AI and private credit. If those fears prove unwarranted, its discounted stock will have plenty of upside.
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