Financiers are currently offering dividends that are notably more stable than might be expected, given their high yields.
For those looking to build a passive income stream to support retirement plans, finding stocks with satisfying dividend yields is becoming increasingly challenging. Over the past 12 months, the S&P 500 has risen approximately 31%. Consequently, with stock prices increasing, the average dividend-paying stock in this benchmark index now offers a relatively low yield of 1.3%.
Despite this trend, high-yield stocks that can be relied upon are still available. Presently, Ares Capital (ARCC) and PennantPark Floating Rate Capital (PFLT) both offer yields exceeding 9%, with a strong likelihood of maintaining these payouts over time.
1. Ares Capital
Ares Capital is recognized as the world’s largest publicly traded business development company (BDC). These specialized entities are favored by income-seeking investors because they can bypass paying income taxes by distributing nearly all earnings to shareholders as dividends.
Although Ares Capital’s dividend payouts have varied, they have increased by 60% since distributions began in 2005. The stock currently offers an attractive 9.2% dividend yield. North American banks have reduced direct lending to all but the largest companies over recent decades, leaving many well-managed midsize businesses in need of capital and willing to accept high-interest rates.
In the second quarter, the average yield on debt securities in Ares Capital’s portfolio was 12.2% at cost. Its established status allows for a relatively low cost of capital, with an average interest rate of 5.3% on outstanding debt during the same period. This significant gap between income and interest expenses led to a 5% year-over-year increase in core earnings, reaching $0.61 per share—more than sufficient to cover the quarterly dividend of $0.48 per share.
While no guarantees can be made, Ares Capital’s debt securities portfolio appears likely to sustain its high-yield dividend payments. As of the end of June, the portfolio had 525 borrowers, with loans on nonaccrual status comprising just 1.5% of total investments at cost. Although severe economic downturns could affect BDCs, Ares Capital’s diverse investments mitigate risks, with its largest concentration being 24% in software and services.
2. PennantPark Floating Rate Capital
PennantPark Floating Rate Capital is another BDC featuring a diverse portfolio and an appealing dividend. Aside from a brief period in 2018, it has been making monthly dividend payments that have either risen or remained steady since 2011. Its current dividend yield stands at 10.7%.
This BDC shares similarities with Ares Capital but has key differences. At the end of June, 50% of Ares Capital’s assets were first-lien senior secured loans, while nearly all of PennantPark Floating Rate Capital’s loans fall into this category, ensuring priority repayment in case of bankruptcy.
Furthermore, approximately 31% of Ares Capital’s investments include equity stakes or fixed-rate loans. In contrast, PennantPark Floating Rate Capital does not hold any fixed-rate debt, with equity stakes comprising only 13% of its portfolio. Although its underwriting team is smaller than Ares Capital’s, it is sufficiently capable, having managed deals with over 230 private equity sponsors by the end of June. Only three of its portfolio companies, representing 1.5% of the portfolio at cost, were on nonaccrual status at that time.
Despite its smaller size, PennantPark Floating Rate Capital’s portfolio is arguably more diversified. At the end of June, its largest industry concentration was in professional services, accounting for 7.8% of the portfolio. This BDC’s diverse portfolio of secured loans, which generate consistent cash flows, indicates potential for maintaining and possibly increasing its monthly dividend payments in the foreseeable future.
Disclosure
The author, Cory Renauer, holds positions in Ares Capital. The Motley Fool holds no positions in the stocks mentioned. The Motley Fool maintains a disclosure policy.
