Why 2014 Has Been a Huge Year For American Capital Mortgage

Source: Company

After a dismal 2013 in which mortgage investment companies have been among the least loved investments in the marketplace, 2014 turns out to be quite a good year for a variety of companies that invest in mortgage-related securities.

One such company is American Capital Mortgage Investment Corporation (NASDAQ: MTGE  ) whose shares have rebounded strongly in 2014.

With a return to positive book value growth, a de-risked balance sheet, a stable net interest spread and a convincing performance record, American Capital Mortgage is an interesting investment for long-term minded investors seeking a high dividend yield.

Return to book value growth
Mortgage REITs have been thrown under the bus in 2013, as the Federal Reserve started to prepare investors for a more restrictive monetary policy in the coming years.

With higher uncertainty about how short- and long-term interest rates would be affected by changing monetary policies, investment portfolios of mortgage REITs came under severe pressure in 2013.

The result: Falling book values of mortgage REITs throughout the year.

American Capital Mortgage, for instance reported a book value per share decline of more than 11% from $24.25 in Q1 2013 to $21.47 in Q4 2013. However, the erosion of book values stopped in Q1 2014 when American Capital Mortgage grew its book value per share by 1.4% quarter-over-quarter to $21.78.

From a psychological point of view, a return to book value growth is an encouraging sign.

Source: American Capital Mortgage Q1 2014 Investor Presentation

Thanks to positive book value growth in American Capital Mortgage's most recent quarter and higher sequential book values for other high-profile mortgage REITs include Annaly Capital Management and American Capital Agency Corporation, sentiment has been changing for the better in the sector since the beginning of the year.

Return of investor confidence and lower discounts to book value in 2014
The return of investor confidence in the mortgage REIT sector in general and in American Capital Mortgage in particular can easily be seen in the chart below.

American Capital Mortgage has delighted investors with a 22.58% total return since the beginning of the year.

As a result, American Capital Mortgage's book valuation has increased throughout the first six months of the year. The mortgage REIT currently trades at a discount of 8% to book value.

Better leverage profile
As 2013 turned out to be a year of higher anxiety for mortgage REITs: many firms, including American Capital Mortgage, started to tackle their leverage ratios.

Mortgage REITs are mostly highly levered investment structures that capitalize on the current low-interest rate environment. Bringing leverage ratios down has been an essential move in order to facilitate the return of investor confidence.

American Capital Mortgage has reduced its total leverage position from a ratio of 7.3x in Q1 2013 to 5.8x in the most recent quarter which is exactly what investors wanted to see.

Source: American Capital Mortgage Q1 2014 Investor Presentation

Stable net interest spreads
American Capital Mortgage makes its money by utilizing low-cost leverage and investing funds into higher-yielding agency and non-agency mortgage investments. The result: A fairly stable net interest spread of around 2% over the last five quarters.

Source: American Capital Mortgage Q1 2014 Investor Presentation

The Foolish Bottom Line
American Capital Mortgage had a difficult 2013, but the mortgage REIT has scaled down its risk, realigned dividends with underlying profitability and has a low valuation of just 0.92x book value.

Though the mortgage REIT has a much shorter track record than other companies in the sector and pays dividends only since 2011, American Capital Mortgage is a promising high-yield investment which could churn out many more dividends in the years to come.

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Kingkarn Amjaroen

Kingkarn Amjaroen is a financial analyst taking an interest in the basic materials, retail and financial sector.

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8/27/2015 4:00 PM
MTGE $15.56 Up +0.17 +1.10%
American Capital M… CAPS Rating: ****