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As we approach the end of a tumultuous 2011, it's time to look back at the biggest winners and losers.
So in this series, that's exactly what we're doing, sector by sector. Today, let's take a look at the 10 biggest winners in the mortgage REIT industry. First, the backstory, then the results.
This year, we saw U.S. Treasuries get downgraded from AAA status while Congress played politics instead of fixing the budget, a domestic economy that has been recovering from its financial crisis in fits and starts, big trouble in Europe, and a Chinese economy that doesn't seem so bulletproof.
The daily volatility in the financial industry has been tremendous, but mortgage REITs haven't been swinging around as wildly as banks. Part of that is European debt fears manifesting in bank stock volatility, but the mortgage REITs have also been less volatile because of the massive, frequently double-digit dividend yields in the industry.
Since REITs have to pay out most of their profits, high dividends imply high profits. Mortgage REITs make their money off the interest-rate spreads between their generally longer-term mortgage debt holdings and their generally shorter-term borrowings. Since the Federal Reserve has kept short-term interest rates near zero, the mortgage REITs have feasted on the resulting spread.
The danger lies in any interest-rate compression, regulatory changes, and the risk inherent in individual REIT portfolios. On the latter point, REITs differ markedly in their holdings (e.g., agency vs. non-agency residential debt, commercial vs. residential) and strategies (e.g., the amount of leverage).
The 10 best mortgage REIT stocks of 2011
For context, the S&P 500 has returned 2.7% after dividends this year. In other words, the market has been basically flat.
2011 Dividend-Adjusted Return
Price-to-Tangible Book Value
|CYS Investments (NYSE: CYS )||22.7%||1.0|
|American Capital (Nasdaq: AGNC )||19.8%||1.1|
|Capstead Mortgage (NYSE: CMO )||19.1%||1.0|
|NorthStar Realty Finance (NYSE: NRF )||15%||0.6|
|Two Harbors (NYSE: TWO )||12%||1.0|
|ARMOUR Residential REIT (NYSE: ARR )||8.1%||1.0|
|Annaly Capital (NYSE: NLY )||5.1%||1.0|
|PennyMac Mortgage Investment Trust||2.8%||0.9|
Source: S&P Capital IQ.
The massive dividends in this space proved a lifesaver for these winners. For example, without dividends, CYS returned only 3%. In fact, only CYS, Capstead, and NorthStar eked out positive returns before dividends.
A flattish stock price and a double-digit dividend are perfectly fine for investors. However, before buying in, consider the macro factors that could reduce those dividends as well as the company-specific strategies and management.
If you're looking for other opportunities in the financial space, let me leave you with a regional bank that has some of the best operational numbers I've ever seen. I wrote about it in our brand new free report: "The Stocks Only the Smartest Investors Are Buying." I invite you to take a free copy and find out the name of the bank I believe Warren Buffett would be interested in if he could still invest in small banks.