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2 BDC Stocks Yield Over 10% With Excellent Covered Call Plays
This article will describe two interesting Business Development Companies (BDCs) that pay dividend yields well over 10%. Their earnings also cover these yields and the companies are buying back shares. In addition, there are attractive covered call opportunities available with these stocks.
- Crescent Capital (CCAP): This business development company (BDC) invests in debt securities from public and private companies. It has a dividend yield of 10.75% based on its regular $1.64 dividend and special 20-cent dividends (although you shouldn't count on the latter), and is trading at 72.2% of its net asset value (NAV).
- Carlyle Secured Lending (CGBD): This BDC also invests in middle-market companies' debt instruments and pays a base 32 cents quarterly dividend giving the stock a 9.97% yield. It also pays a supplemental 8 cents quarterly dividend. Therefore, the total dividend is $1.60, giving CGBD stock an annual 12.45% yield. Moreover, it is cheap at just 75.1% of NAV.
These two stocks are business development companies (BDCs), which are also regulated investment companies. They also must pay out 90% of their income. However, BDCs must invest at least 70% of their assets in businesses worth $250 million or less.
Many BDCs have high dividend yields because they invest in debt instruments from private companies on a leveraged basis. As a result, these BDCs pass on 90% of the interest and capital gains income they receive to shareholders.
However, higher interest rates are both positive and negative. For example, new loan securities issued by middle-market companies will now have higher coupons. That feeds into higher income for the BDC, which is positive for the stock and its NAV.
On the other hand, the NAVs will fall since a higher interest rate environment lowers the present value of all future cash flows. It can also potentially lead to higher defaults. Nevertheless, this risk can be hedged through additional fees, collateral, hedging securities, and warrants received from the issuers.
Let's look at these two BDC stocks.
Crescent Capital (CCAP)
Crescent Capital (CCAP) is a $472 million market cap BDC that invests in the debt of middle-market companies in the U.S. Its present dividend rate is $1.64 annually, based on a “regular dividend” of 41 cents quarterly rate. That alone gives the stock a stated yield of 10.75% at its price of $15.26.
However, the company has paid a 5-cent special dividend for the past three quarters. That means the quarterly dividends are 46 cents, or $1.84 annually if it continues.
Therefore, its potential real run rate dividend yield now is 12.06% (i.e., $1.84/$15.26) — again, assuming that the extra special 5 cents quarterly dividend continues.
However, the last of 4 special dividends have already passed the ex-date. It is not clear if the company is going to pre-announce another 4 quarters of special dividends. Crescent Capital may feel that with a recession some of its securities are less able to pay their interest, and so they may not continue the special dividends. Investors should probably just count on the regular dividends and the 10.75% yield now.
However, by selling out-of-the-money covered calls, the investor can pick up substantial extra income. For example, look at the option chain below.
This shows that the Aug. 19 call options with a strike price of $17.50 that provide 28 cents per contract at the midpoint. That means you receive $28 per contract for 100 shares that will cost an investor $1,526 to buy at $15.26. That works out to a yield of 1.835% for the next 49 days, if held to expiration and the stock does not rise to $17.50.
This works out to an annualized yield of 13.67% since there are 7.45 times you can do this in a year. In effect, then your total return possibility is 24.42% (i.e., 10.75% dividend yield + 13.67% covered call yield). If the stock rises at any point to $17.50, you can earn more money from the difference between $15.26 and $17.50. In addition, if the stock price falls from here, the covered call income helps provide a cushion.
Carlyle Secured Lending (CGBD)
Just like Crescent Capital above Carlyle Secured Lending is a BDC that pays two types of quarterly dividends. But it calls its larger dividend a “base” dividend, 32 cents quarterly. The “supplemental” dividend is 8 cents, bringing the total quarterly dividend to 40 cents, and $1.60 on a run rate. This gives it a total run-rate yield of 12.45% at a price of $12.85 today.
This language is different than a “regular” and “special” dividend like at Crescent. Moreover, Carlyle does not pre-announce four quarters of special dividends like at Crescent. It announces the special dividends each quarter along with the base dividend.
However, the quarterly base and supplemental rates have jumped around a good deal. For example, last year the total quarterly dividends ranged from 40 cents to 46 cents. But starting in 2022, the 32 cents base and 8 cents supplemental dividends became the norm.
Investors should count on the 32 cents base dividend. But the supplemental amounts could be lower each quarter. Therefore the total yield is 12.45%, but it could be as low as 9.96% (i.e., $1.28/ $12.85).
However, for the time being, I suspect investors can count on the full 40-cent total quarterly dividends. In addition, CGBD trades at a discount to NAV. As of March 31, its NAV was $17.11. So the discount ($12.85/$17.11) is 75.1%. That is another major reason to buy CGBD stock.
However, the Carlyle Secured Lending call options do not offer as much covered call income.
This shows that the $15.00 strike price for the Aug. 19 call options provides $8 per contract, which relates to 100 shares that an investor will pay $1,285 to purchase. That works out to a yield of 0.6226% for the 49 days if held until maturity and the option closes with no exercise. That represents an annualized yield of 4.64% in extra income over a full-year period.
Therefore, the total return to investors could be as much as 17.09%, if the 12.45% yield is included (i.e., including supplemental dividends). Although not as attractive as the CCAP total return, it still looks worth investing in.
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