Seeking Alpha
Research analyst, portfolio strategy, portfolio management
Profile| Send Message|
( followers)  

Now that the popular agency mREIT sector has taken some serious body blows, income hungry investors are looking at all sorts of alternatives to replace the lofty yields that stocks such as Annaly Capital (NYSE:NLY) and American Capital (NASDAQ:AGNC) have been paying.

With yields of 12-15% at various points over the last few years, as well as stable share prices, those stocks were staples in many investors' portfolios. Especially the income seeking retired investor. With record low interest rates virtually handcuffing the fixed-income investors and savers of the past, those stocks were bought up and talked about as if they were diamonds.

For quite some time those stocks were godsends to many retired folks, and they were stellar performers. Nothing is risk free as we know, and it appears that the party is over for those stocks. The big question now is where can an income-seeking investor go for those juicy yields?

Business Development Companies

In this article, we went into detail about the entire BDC sector and some of the stocks that are in that business. The stocks that we selected to place in the Team Alpha portfolio are:

1) BlackRock Kelso Capital (NASDAQ:BKCC): Price: $10.11/share, Dividend Yield: 10.75%, ESS Rating: Neutral

  • A share price-to-book value of only 1.04.
  • An enterprise value of $1.15 billion.
  • A forward P/E ratio of 9.67.

2) KKR Financials (KFN): Price: $10.13/share, Dividend Yield: 8.50%, ESS Rating: Neutral

  • A share price-to-book value of only 1.02.
  • An extremely low payout ratio of under 60%.
  • An enterprise value of nearly $8 billion.
  • Profit margins of about 69% and operating margins nearly 73%.

Since that article, we have had a series of analyst upgrades, which is supporting our thesis:

  • On 11/2 Ativo Research upgraded KFN to a "buy."
  • On 11/1 Columbine Capital Services upgraded KFN to an "outperform."
  • On 11/3 Ford Equity Research upgraded KFN to a "strong buy."
  • On 11/5 Thompson Reuters upgraded KFN to a "buy."
  • On 11/3 Ford Equity Research upgraded BKCC to a "buy."

The upgrades in and of themselves do not guarantee that these stocks are winners, but they are an indication of what the sentiment is on Wall Street. KFN reported strong earnings on October 25, and increased earnings of $.22/share to $.61/share, from last quarter to this quarter. Impressive results that probably precipitated those upgrades.

On November 8, BKCC will report quarterly results and I believe the company will show similar results to KFN. I will be paying close attention to the conference call later that day and I urge anyone interested in this stock to tune in as well (the phone numbers can be found at the highlighted page above).

This 6-month chart shows that the share prices of both stocks have been moving up as investors begin to gravitate toward these investments. Both of these companies have solid dividends but are by no means dividend winners. Similar to the mREIT stocks, the dividends have and will fluctuate, however there is no Fed interference within the core business model of the BDCs, and actually, with the actions taken by the Fed keeping interest rates low, it works in the favor of the BDC sector. The banks are reluctant to lend to small businesses and start-up companies. The reward for taking the risk is not worth the bank's time or money.

That leaves the door open for the BDC sector. These two companies can lend for higher rates of return, or equity positions. Many times for both. As the economy heals and expands, BDCs could do very well. That would also mean the potential for capital appreciation.

Dividend "Opportunities"

Much like the mREITs, the BDCs offer an income-seeking investor an opportunity for greater dividend yields.

The stocks need to be monitored just as closely as we monitored the mREIT developments. These stocks are NOT buy and hold forever stocks. They are opportunities, and should be viewed as more of a risk investment that could have an allocation of between 2-4% in a well balanced portfolio.

Source: 2 Dividend Powerhouses That Can Replace mREIT Yields