Private equity (PE) firms get a lot of press for the incredible returns they're able to generate. They turn huge profits by offering debt financing, equity investment and consulting services to closely-held firms. When the projects meet with financial success, the private equity group profits handsomely. A few of the larger PE funds have consistently achieved annual gains in excess of +20%.
The main problem for most of us? Unless you meet strict income and net worth requirements, you're largely forbidden from investing in a private equity fund. So how can the average investor gain exposure to this type of investment?
By investing in a business development company (BDC)
Though BDCs may seem risky, they're really not. Like a mutual fund, a BDC typically invests in a relatively large number of firms over a range of different sectors, thus diversifying its otherwise high level of risk. BDCs also tend to perform well in bear markets. When credit is tight and banks are less willing to make speculative investments, more companies turn to BDCs for funding, enabling them to lock in more favorable lending terms.
One final reason to own BDCs is that they're tax-advantaged. BDCs are exempt from federal taxes as long as they (1) pay 90% of income to shareholders as dividends, and (2) maintain a debt-to-equity ratio below 1.0. As you can imagine, the 90% dividend payout ratio typically leads to high dividend yields.
Here is a list of BDCs along with their market cap and juicy dividend yields:
|Company (Ticker)||Market Cap ($million)||as of 8/19/10|
|Apollo Investment Corporation (Nasdaq: AINV)||1,710||12.02%|
|Ares Capital Corporation (Nasdaq: ARCC)||1,850||9.73%|
|BlackRock Kelso Capital Corporation (Nasdaq: BKCC)||2,800||12.13%|
| Capital Southwest Corporation |
|Fifth Street Finance Corporation |
|Gladstone Capital Corporation |
|Gladstone Investment Corporation (Nasdaq: GAIN)||126||8.39%|
|Hercules Technology Growth Capital, Inc. (Nasdaq: HTGC)||349||8.31%|
|Kayne Anderson Energy Development Co. (NYSE: KED)||147||8.29%|
|Kohlberg Capital Corporation |
| Capital Corporation |
|MVC Capital Inc. (NYSE: MVC)||305||3.81%|
|NGP Capital Resources Co. |
|PennantPark Investment Corporation (Nasdaq: PNNT)||318||10.30%|
|Prospect Capital Corporation |
|Saratoga Investment Corporation |
|Solar Capital Ltd. (Nasdaq: SLRC)||658||12.09%|
|THL Credit, Inc. (Nasdaq: TCRD)||226||1.72%|
|TICC Capital Corp. (Nasdaq: TICC)||244||9.68%|
|Medallion Financial Corporation |
|Triangle Capital Corporation |
Keep in mind that, before investing in a BDC, it is important to do the research! Since the performance of the BDC hinges upon its underlying assets, thoroughly examine the companies in which the BDC is investing (in this case the small, closely-held business looking to the BDC for capital). Putting in the time doing your homework can help you determine which members of our list are healthy and able to sustain their high yield.
To read more about BDCs, check out our article, Why Invest in Business Development Companies?