BDC vs REIT vs MLP: Best SWAN stocks to buy as rates rise?

The financial market is awash with cash as interest rates soars. Certificates for Deposits (CDs) and money market funds (MMF) are now yielding almost 6%. Therefore, some yield-focused investors are moving from stocks to these highly liquid assets.

Many income investors focus on three key types of stocks: BDC, REITs, and MLPs. These companies tend to have a higher dividend yield than other firms because they must distribute their income to their shareholders. So, which are the best stocks to buy and Sleep Well at Night (SWAN)?

AMLP vs BIZD vs VNQ stock chart

MLPs

Master Limited Partners (MLPs) are energy companies that rarely make headlines since they operate behind the scenes. These firms gather, develop, and transport energy products like oil and natural gas. The most popular MLPs in the US are companies like Energy Transfer, Enterprise Product Partners, and Magellan Midstream Partners.

As their name suggests, MLPs operate as partnerships, which offers some tax advantages. As a partnership, they offer a pass-through structure and their distributions are not taxed. These distributions are only taxed when they are sold.

MLP companies are doing well this year because of the rising crude oil prices. Brent crude jumped to $91.8 while West Texas Intermediate (WTI) is nearing $90 a barrel. Prices have jumped because of the ongoing war between Israel and Hamas and the supply reduction by OPEC+. The Alerian MLP ETF (AMLP) stock has risen by almost 20% in the past 12 months.

There are also concerns about the relations between Saudi and Israel. Before the war, the two countries were nearing a landmark deal to normalise ties. As part of the deal, Saudi Arabia was willing to boost oil production.

Therefore, I believe that MLP stocks will continue doing well in the coming months. The two best SWAN MLPs I recommend are Energy Transfer and Enterprise Product Partners.

BDC

Business Development Companies (BDCs) are other high-yielding stocks to consider. These companies are non-banks that provide credit to small and medium enterprises that are often ignored by big American banks.

BDCs are created for moments like this, which explains why the BIZD ETF has jumped by over 25% in the past 12 months. For one, following the collapse of Silicon Valley Bank (SVB) and Signature Bank, many banks are now working to boost their balance sheets. As a result, many companies are turning to BDCs for financing.

The other benefit for BDCs is the nature of their loans. These companies borrow funds at a fixed rate and then loan them at a floating rate, which ensures that they earn a better return when rates are rising.

Most importantly, BDCs are required by law to have a diversified portfolio across numerous sectors. This ensures that they are not very exposed to one sector. Default is the biggest risk that these companies face especially in a high interest rate environment. 

What's missing from the "higher, for longer" interest rate narrative is that it's actually "much higher, forever." The days of ZIRP are over. If they return it will unleash run-a-way #inflation, an implosion in the #dollar, #bonds, and the #economy. Either way crisis is assured!

— Peter Schiff (@PeterSchiff) October 11, 2023

While bankruptcies have risen, the situation has not worsened dramatically in the past few months. Therefore, I suspect that BDC stocks will continue doing well. Some of the most notable SWAN BDCs are Main Street Capital (MAIN), Ares Capital (ARCC), and Golub Capital.

REITs

Real Estate Investment Trusts (REITs) are other stocks popular among income investors since they are required to distribute 90% of their income. REITs are not doing well this year because of high interest rates and a potential wall of maturities.

These companies tend to have an inverse correlation with BDCs because of their structures. BDCs are lenders of capital while REITs are borrowers. Therefore, REITs tend to do well in a low-interest environment and vice versa.

Therefore, I believe that higher interest rates will remain higher for a while, which will hit REITs. The situation will likely worsen in 2024 as companies continue facing a wall of maturities.

Therefore, in all this, I believe that MLP companies are better investments followed by BDCs and then REITs for now. The only silver lining for REITs is that many of them like Agree Capital, Realty Income, and Simon Property Group are highly undervalued.