BEPC - Top High Yield Stocks To Buy In October 2023

2023-10-02 07:05:00 ET

Summary

• High yield stocks are a great way to build a passive income snowball and achieve financial independence.
• We discuss the two key macroeconomic themes that are poised to drive markets as we head into October 2023.
• We share two top high-yield stocks to profit from these trends.

Investing in dividend growth stocks allows investors to generate passive income, a crucial component of long-term financial stability. This strategy operates like a snowball rolling downhill, gaining momentum and size with each revolution. As dividends are reinvested into buying more shares, your income stream grows accordingly. Moreover, as the payout on each share increases over time, your passive income stream grows even faster, creating an exponential effect on your income growth. This compounding process accelerates wealth accumulation and moves you closer to financial independence.

High-yield dividend growth stocks ( SCHD ) are an even greater way to create wealth and secure one's financial future because they offer a unique blend of growth potential and lucrative current income, making them a cornerstone of many passive income investment portfolios. In this article, we will discuss two high-yield dividend growth stocks that are great buys given the dominant economic trends in October 2023.

Top High Yield Stock #1: Energy Transfer ( ET )

In recent months, energy prices have soared, driven by numerous factors , including:

• Global Supply Cuts: Leading oil producers like Saudi Arabia and Russia have committed to reducing production, thereby constraining global oil supplies. These supply cuts are exerting upward pressure on oil prices.

• Geopolitical Turbulence: Geopolitical factors, including sanctions against Russia, have further limited global oil supplies. Some also speculate that the Chinese Communist Party is strategically stockpiling oil in preparation for potential future sanctions and/or a war over Taiwan.

• Economic Reopening in China: As the world's second-largest economy emerges from pandemic-related lockdowns, transportation demand in China has surged, contributing to the bullish outlook on energy prices.

With transportation demand on the rise worldwide and geopolitical tensions simmering, energy prices appear poised to climb even higher. Analysts are eyeing the possibility of oil prices surpassing the $100 per barrel mark in the near future. That said, the sustainability of these price levels is increasingly being called into question by numerous analysts.

As a result, while we think it makes sense to have exposure to the energy sector right now, it is important to do so through a business model that benefits over the long term from strength in the energy sector but whose cash flows are relatively immune to short-term volatility in energy prices. For this, we turn to the midstream infrastructure sector ( AMLP ), and one of our favorite picks there is Energy Transfer. It presents a compelling investment opportunity as it offers investors an enticingly high yield, a solid investment grade balance sheet, and a significant valuation discount to some of its peers. Its cash flows are ~90% immune to short-term energy price swings thanks to its substantial exposure to long-term fee-based contracts.

Moreover, it is committed to investing in growth capital projects and acquisitions, with plans to allocate over $3 billion annually moving forward. With its leverage ratio well within its long-term target range, plenty of liquidity on its balance sheet, an expected 2023 distribution coverage ratio of 1.95x, an 8.8% forward distribution yield plus 3-5% expected annualized distribution growth, and an EV/EBITDA valuation multiple that trades at a 1-3 turns discount to many of its investment grade peers like Enterprise Products Partners ( EPD ), MPLX ( MPLX ), Enbridge ( ENB ), and TC Energy (TRP), ET offers investors very attractive risk-reward for benefiting from soaring energy prices.

Top High Yield Stock #2: Ares Capital ( ARCC )

Another major economic trend facing us as we head into October 2023 is that the market is coming to grips with the fact that interest rates are likely to remain higher for longer than previously expected. While Federal Reserve officials anticipate a modest reduction in the central bank's benchmark interest rate in 2024, they project that it will remain relatively high for an extended period of time. Moreover, the prevailing consensus among most investors and analysts is that interest rates will stay elevated for the foreseeable future in order to complete the Fed's war on inflation.

This new reality has led to crashing stock prices in sectors that benefit from access to low-cost capital, such as triple net lease REITs ( VNQ ) like Realty Income ( O ) and W. P. Carey ( WPC ) and renewable energy yield companies like NextEra Energy Partners ( NEP ), Brookfield Renewable Partners ( BEP )( BEPC ), and Clearway Energy ( CWEN )( CWEN.A ):

However, one corner of the high-yield market that has been spared this carnage has been Business Development Companies ( BIZD ) due to the fact that they invest primarily in floating-rate loans and therefore actually benefit from rising interest rates.

ARCC looks particularly attractive given its robust business fundamentals, consistent track record of dividend payments, and prudent financial management as evidenced by its tremendous track record of generating long-term total returns for shareholders that crush the S&P 500's ( SPY ):

In the second quarter, ARCC generated a sequential increase in Net Asset Value per share due to a combination of retained earnings after dividend distributions and appreciation of its underlying assets. Yields on income-producing securities and total investments rose, suggesting improved prospects for higher returns moving forward. Moreover, the net interest and dividend margin also expanded, further enhancing income potential as interest rates remain at an elevated level. In addition, the leverage ratio decreased, reflecting responsible leverage management and further supporting its investment-grade balance sheet. Last but not least, ARCC's non-accruals improved, both on an amortized cost and fair value basis, reflecting strong underwriting performance.

With a well-covered 9.9% dividend yield, an investment grade balance sheet, and considerable exposure to senior secured floating rate loans backed by a long track record of strong underwriting performance, ARCC looks like a great way to profit from the high-for-longer interest rate outlook.

Investor Takeaway

Building wealth through passive income remains a timeless strategy, and in October 2023, two high-yield stocks stand out as ideal vehicles for this approach: ET and ARCC.

ET provides an opportunity to profit from the current boom in energy while also offering exposure to long-term growth, lucrative current income, a defensive business model, and a strong balance sheet at an appealing valuation.

ARCC, meanwhile, benefits from interest rates remaining at an elevated level while also providing investors the comfort that comes from investing primarily in skillfully underwritten senior secured loans. With robust fundamentals, dependable dividend coverage, and prudent financial management, ARCC's 9.9% dividend yield is a solid choice for income-focused investors looking to hedge against interest rates remaining higher for longer.

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