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Many investors are familiar with REITs -- or real estate investment trusts -- and their ability to deliver high-yielding dividends.
Business development companies, or BDCs, are not as well known to the average investor, but they essentially do the same thing: deliver huge dividends.
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BDCs were created by federal law in 1980 to funnel public investment into small- and mid-sized companies that don't have the same access to private capital as larger firms. Like REITs, BDCs are required by law to distribute 90% of their taxable income as dividends in exchange for certain tax breaks.
Also like REITs, BDCs tend to provide investors with substantial income. High-yield dividends are their main benefit for investors, but some also deliver decent returns.
Here are two of the best BDC stocks to buy right now.
Main Street Capital (NYSE:MAIN) is pretty much the gold standard among BDCs. Since it went public in 2007, Main Street Capital has never reduced its dividend, raising its monthly payout annually for 19 straight years -- and counting (it also pays out a semiannual supplemental dividend that it did suspend in 2020 during the COVID-19 pandemic). Earlier this month, the company approved a dividend increase for the first three months of 2027, marking the 20th straight year of regular dividend increases.
Main Street Capital boosted its dividend for January, February, and March 2027 to $0.27 per share, up from the current $0.265 per share.
The other thing that makes Main Street Capital stand out is that it pays a monthly dividend, rather than quarterly. The more frequent payouts give investors a steady flow of income. And the dividend payouts come at a high yield of 7.66% (when including the semiannual supplemental dividends), which is 7 times higher than the S&P 500 (SNPINDEX:^GSPC)average.
Main Street Capital has been so consistent in raising its dividend because of its model, which features two primary benefits. One, it is internally managed, so it handles loans in-house rather than using third-party asset managers. That gives it more direct control over its investments, but also reduces the fees it would pay out to a third party.
Two, it holds an equity stake in most of the lower-middle-market investments it makes. So, it profits from the companies it invests in through its equity stake. That makes it, perhaps, much more selective and focused on growing its investments in these LMM companies.
This has allowed it to not only sustain its dividend but also perform relatively well from a capital appreciation perspective. Since it went public in October 2007, Main Street Capital stock has averaged a 7.2% annualized return, which is solid for a BDC. But if you reinvested the dividends, that average annualized return jumps to 16.6%.
So, the high-yield dividend puts money in your pocket every month, and if you choose to reinvest it, it has a track record of generating solid returns.
Ares Capital (NASDAQ:ARCC) is another excellent BDC that pays an even higher yield than Main Street Capital, but it does not have the same degree of sustainability as Main Street.
Ares is the largest publicly traded BDC, with a market cap of around $14 billion. It invests in larger companies than Main Street, primarily middle-market firms. It focuses on high‑quality companies that are market leaders with sturdy cash flows, experienced management, and differentiated business models.
The stock pays a super-high dividend yield of 9.88%. It's different from Main Street in that it pays its yield quarterly, rather than monthly. It also doesn't have the same streak of raising its dividend. However, it has maintained its dividend at $0.48 per share for the past four straight years, since late 2022.
And before that, it hadn't lowered its quarterly dividend since 2009. It has also periodically paid out supplemental dividends over that time.
Ares Capital stock has averaged just a 2.2% return over the past 10 years, but with the dividend reinvested, that increases to a 12.4% average annualized 10-year return.
In an uncertain market for BDCs, with borrowers in general facing economic challenges, these two stand out for their rigorous lending standards, conservative underwriting, and stability. But if one stands out as the better option for investors, it is Main Street Capital.
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Dave Kovaleski has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Ares Capital. The Motley Fool has a disclosure policy.
What Is a Business Development Company? 2 BDC Stocks to Buy for Income. was originally published by The Motley Fool
