3 Things That Could Hobble Annaly Capital

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Annaly Capital (NYSE: NLY  ) will be reporting first-quarter earnings soon, when investors will get a glimpse of how 2013 has been treating the mega mortgage REIT. With that in mind, I thought it would be a good idea to take a look even further ahead in the year, since several political issues are on tap that concern mREITs in general, and Annaly in particular.

So, without further ado, here are three factors that I feel might trip up Annaly later this year.

1. Concerns about an mREITs bubble
Regulators have been peering at mREITs for some time, wringing their hands over the amount of assets they own and worrying that a failure of these trusts might put the economy at risk. Recently, these trusts were on the agenda of the Financial Stability Oversight Council, as that body considers various financial entities that could pose a threat to the economy.

Under particular scrutiny is Annaly and its fast-growing peer, American Capital Agency (NASDAQ: AGNC  ) , which together, hold nearly $235 billion in assets. Despite their relatively small participation in the mortgage-debt market, mREITs could find themselves facing new rules that limit their use of leverage -- and as a result, their stellar returns.

2. Congress is eyeballing the REIT sector's special tax status
The U.S. Congress is currently going over the tax code with a fine-tooth comb looking for loopholes, and the REIT industry's special tax status is coming under review. Though The Wall Street Journal notes that a change in the law that allows REITs to avoid corporate taxes on income as long as they pay out 90% of earnings isn't certain, neither is it out of the realm of possibility -- possibly making dividends like those paid by American Capital Agency and its hybrid cousin American Capital Mortgage (NASDAQ: MTGE  ) a lot less hefty.

3. Shareholders may balk at Annaly's new management paradigm
Annaly's management will have a big question for its stockholders at this year's annual meeting, asking for their blessing to segue from being an internally managed company to using an external management team -- one made up of the very people that now rule the roost.

Of course, many mortgage REITs are externally managed, such as the aforementioned American Capital Agency and American Capital Mortgage. However, this proposal seems to behoove Annaly's management more than its shareholders -- and, as my colleague John Maxfield has pointed out, will also protect the board members from having to publicly disclose their salaries. If a large enough contingent of investors questions the wisdom of this move, the meeting could turn into a rumpus that could damage Annaly's credibility.

This latter scenario will play out next month, while the political issues will likely take longer to simmer. Meantime, Annaly continues to work on its acquistion of CreXus Investment (UNKNOWN: CXS.DL.DL  ) , the purchaser of commercial mortgage-backed securities that Annaly hopes will help relieve some of its QE3-inspired malaise. If there is one thing Annaly investors can count on, it is that the rest of 2013 won't be boring.

There's no question Annaly Capital's double-digit dividend is eye-catching. But can investors count on that payout sticking around? With the Federal Reserve keeping interest rates at historically low levels, Annaly has had to scramble to defend its bottom line. In The Motley Fool's premium research report on Annaly, senior analysts Ilan Moscovitz and Matt Koppenheffer uncover the key challenges the company faces and divulge three reasons investors may consider buying it. Simply click here now to claim your copy today!

Read/Post Comments (4) | Recommend This Article (3)

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  • Report this Comment On April 29, 2013, at 1:45 PM, cloggervic wrote:

    What's with all the scaremongering? You short NLY or something, Amanda?

    Your point 3 - the externalization of management - is especially BS. It is in fact a very good thing to do.

    Other REITs figured out years ago why putting the directors in an LLC was smart . The problem it solves is the non-tax-deductibility of director compensation over $1m for the REIT, which is $44m/year for NLY Because of this, the IRS reckons NLY taxable income to be $44m higher than it really is, and makes them pay tax on money they didn't make. But a management fee paid to an LLC is completely deductible for the REIT, solving the problem.

  • Report this Comment On April 29, 2013, at 9:54 PM, lbjack wrote:

    Incredibly uninformed speculation. The author has NO information that Congress is looking at REITs specifically. REITs are not abusive in any way, shape or form. They were established BY CONGRESS to enable the retail investor to enjoy pass-through tax advantages that private investors have with K-1 partnerships.

    Mortgage REITs are recognized beside equity REITs. MREITs have NEVER been a factor in any real estate bubble. The leverage mREITs use is moderate, only a fraction of leverage used historically and certainly a fraction of leverage banks and indeed the Fed itself use. MREITs market about 7% of the MBS market, while the government makes up about 33% of the market.

    Amanda Alix and the WSJ are sensationalizing a non-story.

  • Report this Comment On April 30, 2013, at 12:56 PM, spokanimal wrote:

    Regarding M-REIT's "tax-favored" status... uuhhh...

    ... last I checked, my M-REIT dividends weren't "qualified" dividends... they were going off at my full-on, earned-income tax rate.

    Nothing "tax favored" about that, from the perspective of the recipient of the dividend.

    I've often suggested that ALL dividends not be qualified... and taxed as ordinary income... BUT... that the corporation who PAYS the dividend be allowed to deduct them...

    ... democrats in congress screamed BLOODY MURDER at THAT suggestion.

    The reason they screamed?

    The non-deductability of dividends by paying corporations is one of the far-left's favorite "stealth" taxes. 95% of americans don't realize how the corporations that otherwise might employ them get hammered by such tax policies and take their payrolls overseas as a result.

    Why do you think Mr. Obama seated Warren Buffett's secretary in the front row at the state of the union address?...

    ... because most americans don't realize that Warren Buffett deducts her salary while the corporations who pay Mitt Romney his dividends pay 35% tax on those earnings... that's why.

    Obama is all about exploiting american ignorance with catchy, populist soundbytes.


  • Report this Comment On April 30, 2013, at 1:08 PM, mikecart1 wrote:

    I don't really agree with this article. It is known that with changing interest rates, REITs like NLY will take a hit in their dividend. However, the dividend is not going anywhere and will still be near the top out of all traded stocks in terms of yield and consistency. There is nothing wrong with the business model and congress is not looking to do anything with REITs.

    Overall, this article really makes no sense.

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