2023-06-12 09:38:07 ET
Summary
- Three stocks for income-driven investment strategies: Golub Capital BDC, Owl Rock Capital, and Broadstone Net Lease.
- These stocks were chosen based on value and profitability metrics, with a focus on high current dividend yield and likelihood to sustain that dividend yield.
- Several other stocks such as Ares Capital can find use as part of a diversified income-oriented portfolio.
From a personal perspective, the purpose of investing is to make money. There ought to be a way to tease out features of stocks that are responsible for them making money.
If your goal is consistency, for example a steady stream of income, then here is a list of sample criteria you may consider. First of all, the company must be profitable right now – not in the future, but right now . Then, it’s important to consider how much you’re paying for those profits (value). Paying more cuts into your return on investment. Finally, the company needs to sustain those profits for as long as you’re investing.
There are thousands of stocks listed on global exchanges, and many hundreds which are suitable for income-driven investment strategies. Instead of searching through endlessly many financial statements, we can instead rapidly screen thousands of stocks for value and profitability metrics, and then only scrutinize a handful of high-scoring stocks. At the very least, this approach is more robust than getting stock picks by word of mouth, and is easier than understanding the ins and outs of dozens of corporations.
The methodology is given at the end of this article. To summarize, the 3 picks (+1 honorable mention) are as follows:
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Golub Capital BDC ( GBDC ) – Yield: 9.81%
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Owl Rock Capital Corp. ( ORCC ) – Yield: 9.72%
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Broadstone Net Lease, Inc. ( BNL ) – Yield: 6.88%
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Honorable Mention: Ares Capital ( ARCC ) – Yield: 10.05%
Golub Capital BDC – Yield: 9.81%
GBDC is a BDC that invests in middle-market private equity companies, for which the sector scope is all-encompassing. The vast majority of investments are in loans, which lends itself to some safety compared to equity investing. It’s most recently recommended by Stephen Nemo , Gen Alpha , and On the Pulse .
GBDC has sustained a very stable dividend of over $0.25/share for as long as Seeking Alpha has data. Over 10 years of distributions is a reasonable track record. Occasionally, GBDC also issues a surprise dividend. However, with a relatively low market cap of only $2.29 billion, the struggling growth is a bit surprising. It may be prudent to assume that the dividend won’t be growing any time soon. Ultimately GBDC is a non-diversified investment management company; there is definitely some risk here in the long-term, especially if firms default on their loans. In the short term, however, GBDC has proven it can provide a high standard of income.
Owl Rock Capital – Yield: 9.72%
ORCC is a BDC that invests primarily in first lien senior secured loans within the private equity space, and to a lesser extent in common and preferred equity. The investments are highly diversified across sector across all regions of the US. Their investment strategy specifically seeks income with maximal risk-adjusted returns. ORCC has received favorable analysis, most notably by ADS Analytics who was not overly enthusiastic about GBDC.
With such a fearsome track record, this support is hardly surprising with consistent semi-annual $0.31/share distributions. That being said, I think it’s a bit misleading because the total distributions fluctuate over time, depending on how large the special distributions are. ORCC may be a candidate for those who can tolerate slightly uncertain semi-annual income. ORCC is a larger and more diversified firm compared to GBDC, which makes it more suitable as a long-term holding in my view.
Broadstone Net Lease – Yield: 6.88%
Unlike the first two picks, BNL is not a BDC but is instead a net lease REIT that offers single-tenant commercial real estate services to credit-worthy clients. It creates a diversified income-oriented portfolio across over 800 properties to industrial, retail, and office clients. Providing long-term leases probably exposes BNL to term risk, but term risk also demands a premium, and for a long-term investor, long-term leases are not risky. BNL was most recently championed by Steven Cress and Gen Alpha .
BDC claims persistent growth since inception in 2007. They have only been a publicly traded stock since late 2000, but they have provided a quarterly dividend upwards of $0.25/share since their IPO. Moreover, BNL has been growing faster and has astronomical CapEx growth compared to its peers, which may explain the relatively low dividend yield compared to other firms on this list. Being a relatively small company with a market cap of $3.2 billion, BNL has quite a bit of scope for future growth.
Honorable Mention : Ares Capital
ARCC was barely edged out by BNL, by a practically insignificant margin. That being said, ARCC is Cress and Mause’s #1 BDC pick as of last month and is otherwise recommended by most Seeking Alpha analysts. ARCC is a decisively larger firm than others on this list, with a market cap exceeding $10 billion. It may not be a bad option for those looking for safety in size.
Other honorable mentions include EPR Properties ( EPR ) with 7.27% yield and Essential Properties Realty Trust, Inc. ( EPRT ) with 4.46% yield, which Cress recommended alongside BNL . These were just slightly farther down the list. There’s nothing wrong with these REITs – consider it luck that they didn’t make it onto the list.
Summary: Familiar Firms with Favorable Metrics
Oftentimes a drawback of investing into name-brand stocks is that they’re name-brand for a reason – everybody knows that they’re good, and that makes them less of an opportunity. On the other hand, investing quantitatively forces you into a domain where the companies tend to be unrecognizable or otherwise have tremendous risks associated with them – opportunity is rife but fraught with danger.
Fortunately, these three heuristic-derived picks end up being name-brand companies I’ve heard of before and are generally reputable and recommended. If you’re an investor who could use these stocks in your portfolio, now may be a better time than any to start buying. My favorite would be ORCC – I like its name.
Methodology
The universe starts with the Russell 3000. A handful of value (e.g. quarterly price-to-book ratio) and profitability (e.g. operating profitability) metrics were calculated for as many stocks as possible. There was no standardization to any intra-sector benchmark, and as such there is tremendous sector (and size) bias. This is in part addressed later on by comparing scores to Quant, which does consider sector benchmarks. Regardless, top-scoring stocks in the universe will generally be top-scoring stocks intra-sector.
Stocks with negative profitability were excluded entirely. Then, the 500 smallest companies (typically micro-caps where there is tremendous company-specific risk) were dropped. Stocks were sorted in two columns: 1) by value; and 2) by profitability. From there, a composite rank was calculated from the value and profitability rank ordering, emphasizing two criteria: 1) profitability has a higher weight; and 2) stocks that score highly on both value and profitability are rewarded more than stocks where only one of the metrics scores highly.
From there, three stocks were hand-selected with attention to high current dividend yield and likelihood to sustain that dividend yield. Because REITs and BDCs are legally obligated to distribute 90% of their taxable income as dividends, just so happened to be those high dividend picks. Next, I used Quant to verify each of these picks, paying particular attention to Quant’s value and profitability scores (metrics like momentum are less important in our case). If we both agree, then odds are we are both “right”. As one last step, I cursorily browsed the news. Some REITs like Innovative Industrial Properties, Inc. ( IIPR ) score extremely highly on my list and Quant, but have other problems such as alleged fraud . If a stock had anything abnormal, then I excluded it.
Note that quantitative screens (obviously) do not capture everything about a stock, and as such they should be considered cautiously. There are known biases and unknown biases. As Warren Buffett says, “diversification is a protection against ignorance”.
For further details see:
3 Select High Yield Dividend Picks Screened For Value And Profitability