Are Mortgage REIT Dividends Free Money?http://www.fool.com/investing/general/2012/03/07/are-mortgage-reit-dividends-free-money.aspx Alex Dumortier
March 7, 2012
I've written in the past about the risks associated with mortgage real estate investment trusts Annaly Capital Management (NYSE: NLY ) and American Capital Agency (Nasdaq: AGNC ) , and I've become increasingly disturbed by reader comments that make it clear that some shareholders believe mREIT dividends are "free money." As a result, I think it's crucial to dispel a few fundamental misunderstandings about these companies and their stocks.
This is no straw man
I rest my case for the utility of an article like this one.
First reality: There are no barriers to entry in this business
Strictly speaking, it's not entirely true that there are no sources of competitive advantage in this area. In theory, a strict value discipline and the ability to adopt a long-term time horizon are the twin pillars of success. I'm willing to believe that Annaly's management has a value orientation (although I think Redwood Trust (NYSE: RWT ) is a better example of this than either Annaly or American Capital). The trouble is that mREITs lack financial flexibility because they must, by law, pay out 90% of their profits to shareholders, and they depend heavily on short-term financing. That's a huge structural impediment to implementing a value approach -- particularly during periods in which it would be most profitable.
Second reality: Businesses with no moats don't earn excess returns