Without Farrell at the Helm, Will Annaly Be Cast Adrift?

Less than two weeks after Annaly Capital Management's (NYSE: NLY  ) Board of Directors announced that it had appointed co-founder and COO Wellington Denahan-Norris co-CEO so that CEO Michael Farrell could concentrate on his health, Annaly announced that Farrell had lost his battle with cancer.

This is sad news, but when big changes occur in any company, investors often become wary. In this case, however, I don't think that Annaly will experience any big shakeup because of Farrell's untimely death.

Farrell seen as driving force behind the mortgage REIT
Farrell and Denahan-Norris founded Annaly, which went public in 1997, during a boom time for mREIT IPOs. Doubtless, the interest rate flip-flop in 1998 -- whereby short-term rates increased as long-term rates dropped – must have affected Annaly as it did venerable mREIT Capstead Mortgage (NYSE: CMO  ) , which nearly went under. Capstead was seen to have management issues, but both companies survived, while others did not. It is a tribute to Farrell's leadership that Annaly not only made it through, but went on to become the darling of the mortgage REIT sector.

Farrell was well-considered in the industry, and very well paid for his work. Mortgage REIT executives are paid primarily for bulking up the company's book value rather than for overall corporate performance. Some analysts feel that this is not a great business model, since the main method of doing so is by issuing new shares – which may become untenable over time.

Annaly stockholders have been happy with the setup, though, as well as the annualized return of approximately 17%. Despite Farrell's compensation of $35 million for this year, shareholders didn't balk, as they have over the pay packages of other financial sector CEOs, such as Citigroup's (NYSE: C  ) former CEO Vikram Pandit.

QE3 is taking a toll on the sector
Investors are already nervous about the mREIT sector, as the Fed's QE3 causes upheaval in the sector. It's true that dividends at Annaly have decreased a bit lately, but the story is similar at peers like Capstead and American Capital Agency (Nasdaq: AGNC  ) -- though the $1.25 payout from the latter was much higher than Annaly's $0.50.

Denahan-Norris recently told Bloomberg that the Fed's current program of open-ended mortgage-backed securities purchases is putting pressure on mREITs in general. Still, she and CIO Bill Roth of Two Harbors Investment (NYSE: TWO  ) , note that neither company plans to ratchet up leverage in an effort to keep the high returns flowing.

Fool's take
Farrell and Denahan-Norris appear to have worked closely over the years, and her ascension to the position of CEO is likely, and not apt to cause any changes to Annaly's business plans. Annaly recently announced a $1.5 billion stock-buyback program, which followed a recent repurchase of 4% convertible senior notes with 2015 due dates. This new announcement has prompted an upgrade by Compass, which notes the savvy distribution of capital, an action that will also help support the stock price. The all-important book value should also be bolstered by QE3, not only for Annaly but for all mREITs, as MBSes become scarcer and scarcer.

Annaly has been through hard times before, and will likely see its way through the current dodgy financial climate, too. While Farrell will certainly be missed, his company seems to be in able hands.

Annaly Capital Management has a history of paying huge dividends to shareholders. Considering the current economic climate and leadership changes, there are some crucial issues investors have to understand about Annaly's business model before buying the stock. In this brand new premium research report on the company, our analyst runs through these absolute must know topics, as well as the future opportunities and pitfalls of their strategy. Click here now to claim your copy.

Fool contributor Amanda Alix has no positions in the stocks mentioned above. The Motley Fool owns shares of Citigroup and Annaly Capital Management. Try any of our Foolish newsletter services free for 30 days.

We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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