3 Dividend Stocks to Consider Before Buying Annaly Capital

What I'm about to do is play devil's advocate.

Too many investors get excited and jump into a stock without comparing and contrasting against other possibilities.

Annaly Capital (NYSE: NLY  ) has an eye-popping 15.6% dividend yield. The attraction to such a yield is that investors can double their money in 6 to 7 years even if the stock price does nothing. The catch is that the dividend has to hold. That's a big "if."

Like oil shipper Frontline (NYSE: FRO  ) , on a trailing-twelve-months basis, Annaly paid out more in dividends than it made in earnings. That's not sustainable.

As a REIT, Annaly has to pay out at least 90% of its taxable income each year, but the question is whether Annaly can keep that taxable income up. It can as long as interest rates can stay low enough to maintain the spreads Annaly is making between the money it borrows and the money it invests in agency mortgage securities. It also has bought a significant portion of interest rate swaps to hedge against rising interest rates. Still, when you're in an optimal situation (as Annaly is now), it's wise to consider what happens when the situation is sub-optimal.  

As I alluded to earlier, it's a good idea to look at multiple alternatives before making any buy/sell/hold decision. So before buying shares in Annaly Capital, read on as I give you one (hopefully) compelling reason to consider one of these three other stocks with eye-popping dividends. You may already know about Annaly's related companies, Chimera (NYSE: CIM  ) (invests in non-agency mortgage securities) and Crexus (NYSE: CXS  ) (invests in commercial real-estate securities), so I'll name three that are distinct.

Windstream (Nasdaq: WIN  )
A difficulty for investors with Annaly, Chimera, and Crexus is getting a handle on all the moving parts. Though they explain their business models well (see Annaly's explanation here) and seem quite skilled at their craft, these companies are basically focused Wall Street trading desks. Windstream is the opposite. It sells landline phone service in rural areas. It's a mature, dying business (Windstream has about the same amount of sales today as it did in 2004 with less net margin). But it's doing the smart thing and paying out a hefty 8.8% dividend. This returns money to shareholders and keeps management from wasting it on ill-fated growth projects or acquisitions.

Linn Energy (Nasdaq: LINE  )
Linn Energy is a natural gas and oil company set up as a limited liability company (which is very similar to a master limited partnership, or MLP). It's got negative earnings and cash flow over the past 12 months due to the state of the natural gas industry. Its balance sheet is reasonable with a debt-to-equity ratio under 1. For more on Linn, click here.

Altria (NYSE: MO  )
Yesterday, I highlighted Marlboro maker Altria for our "11 O'Clock Stock" series. We (The Motley Fool) are buying 50 stocks in 50 days. I added Altria because I believe it makes a nice addition to a balanced portfolio. It's got a lot of risks (in fact, in my write-up, I listed 10 reasons not to buy Altria), but it cranks out a 6.3% dividend yield that's supported by its amazing brand power. The stock is reasonably priced now (about $22 a share), but would be a steal less than $18 a share. Click here for my entire write-up.

The final reminder
As you decide between Annaly Capital and these other alternatives (or none of the above), remember that one compelling reason does not an investment thesis make. Each reason is merely a starting point. Personally, I find many of these companies (including Annaly) worth further research. Good luck!

For more stock ideas, check out what could be the best opportunity in a decade

Anand Chokkavelu owns shares of Altria. The Fool owns shares of Altria. The Fool has a disclosure policy.


Read/Post Comments (4) | Recommend This Article (28)

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  • Report this Comment On August 04, 2010, at 6:58 AM, scavanna wrote:

    In my mind you made a compelling case for Annaly, even if they cut dividends in half you are still getting a hefty return, they are conservative (read interest rate swaps to protect against interest rates rising, they are very transparent as to their business and the market environment they operate (monthly commentary) and a history of payouts even if some years they declined somewhat. Needless to say I own Annaly and buy it up to 17.50

  • Report this Comment On August 04, 2010, at 12:25 PM, Nrgyindependance wrote:

    Yeah, I agree with scavanna above. I get tired of these articles that criticize Annaly because they happen to have a business model that is working extremely well right now under the current interest rate conditions. Of course intereset rates may(will) change in the future and the spread will not be as attractive as it is now. Future events will always impact any company! But in the meantime they are printing money! And that looks to be for a long time until rates start rising. Even then, the business model self adjusts as borrowing costs rise so do mortgage rates through time. I have read these types of "warning" articles for the last several years....... as I have benefited from significant dividends for many years! I have enjoyed a 10-20% yield for at least 6 or 7 years now and reinvested $$ with minimal fluctuation in stock value!

  • Report this Comment On August 04, 2010, at 7:45 PM, TMFBomb wrote:

    @scavanna adn Nrgyindependance,

    To be clear, I'm not necessarily down on Annaly. I'm merely presenting some other companies to also consider. As I say in the conclusion of my article, I believe Annaly is worth further research (if it's within your circle of competence).

    Thanks for reading and thanks for the comments.

    -Anand

  • Report this Comment On August 08, 2010, at 8:26 AM, bmc007 wrote:

    I too agree with scavanna and am doing the exact same thing - buying up to 17.50. You get nice little dips now and then for buying if you keep an eye on it. What's not to like about a deal like this.

    Even if/when rates do rise, it will be little by little and there will be plenty of new opportunities to buy on dips as people run scared at the first mention of a rate rise. Plenty of money to be made with NLY still.

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