There are plenty of ways to generate passive income. For example, you could buy a real estate property and rent it out. You could write a book and earn money from the sales. But these approaches require a not-so-insignificant amount of work upfront.
Alternatively, you could take an easy approach. Want $10,000 in annual passive income? Invest $106,000 in these three high-yield dividend stocks.
1. Ares Capital
Ares Capital (ARCC -0.69%) looks like a great target for one-third of your $106,000 upfront amount. With its dividend yield of nearly 9.7%, this stock should generate more than $3,420 of annual income without you having to lift a finger.
How can Ares Capital pay such a juicy dividend yield? It's a business development company (BDC) that's required to distribute at least 90% of its income to shareholders in the form of dividends to be exempt from federal taxes.
Ares Capital stands out from most BDCs, though. For one thing, it's the biggest publicly traded BDC on the market. More importantly, the company has a more stringent risk management approach than most of its peers. Ares Capital provides financing to the upper end of the middle market. It also has a more diversified portfolio than most other BDCs.
I suspect that you can make even more than just $3,420 per year by investing in Ares Capital, though. The company's total returns have trounced the S&P 500 through the years. With many banks snubbing their noses at lending to middle-market businesses, Ares Capital should have a great opportunity to continue outperforming the overall stock market.
2. Energy Transfer LP
Another one-third of your initial investment could go to good use in buying units of Energy Transfer LP (ET 1.43%). The midstream energy company's distribution stands at 9%, enough to kick in another $3,180 of annual passive income.
I expect that Energy Transfer's distribution will increase. The company targets an annual distribution growth rate between 3% and 5%. It appears to be in a good financial position to hit that goal. Energy Transfer generated excess cash flow of around $1 billion after its distributions in the third quarter of 2023.
Investors could be rewarded in another way. The company is working to reduce its debt-to-EBITDA ratio to the low end of its target range of 4x to 4.5x. After it achieves this objective, it plans to prioritize unit buybacks -- the equivalent of stock buybacks that boost the value of existing shares by reducing the number of outstanding shares.
Should you worry about the shift to renewable energy sources hurting Energy Transfer? I don't think so. The demand for the crude oil and natural gas liquids that flow through the company's pipelines is likely to remain solid for years to come.
3. Rithm Capital
Investing the final one-third of your $106,000 in Rithm Capital (RITM -0.46%) should add another $3,430 or so in annual passive income thanks to Rithm's dividend yield of 9.71%. That brings the total annual passive income from investing in these three high-yield stocks to over $10,000.
Don't let the name fool you. Rithm Capital isn't a BDC like Ares Capital. Instead, it's organized as a real estate investment trust (REIT). But REITs operate under similar regulations related to dividend payouts as BDCs do.
Rithm Capital is involved in multiple businesses. The company provides transitional lending to residents. It services mortgage loans. Rithm has subsidiaries that handle title insurance, manage appraisals, manage investments, and rent single-family homes. It also recently completed the acquisition of alternative asset manager Sculptor Capital Management.
A few caveats
I think that investing $106,000 spread equally across these three high-yield dividend stocks really can generate passive income of at least $10,000 over the next year. However, there are a few caveats to keep in mind.
First, it can be highly risky to put all of your money in just three stocks. Creating a well-diversified portfolio is recommended.
Second, there's a chance that Ares Capital, Energy Transfer, and/or Rithm Capital could cut their dividends or distributions. I don't expect that to happen, but it's possible.
Third, these three stocks could decline enough to offset any income you make from them. My view is that they should perform relatively well over the long term, but a lot can happen over the next year that could cause the stocks to fall.
Keith Speights has positions in Ares Capital. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
