Annaly Capital's (NLY 1.02%) big draw is its dividend yield. Today that yield is roughly 12.6%, which is huge. But it really isn't historically out of line for this real estate investment trust (REIT), given that the yield has been above 10% for most of the last decade. And yet, if history is any guide, dividend investors would be much better off buying lower-yielding REITs like Realty Income (O -0.17%). Here's what you need to know.
The trend is not your friend with Annaly's dividend
Annaly Capital's yield is high today and it has been high for the past decade. How high? Well, its 12.6% yield dwarfs the 5.6% yield you would get from Realty Income or the even lower 4.5% yield of the average REIT, using the Vanguard Real Estate ETF as a proxy. This is not even remotely a new phenomenon, since this same relationship has basically been in place for at least the past 10 years.
NLY Dividend Yield data by YCharts. Note: yield fluctuations are due to calendar effects and don't accurately reflect the smoother history of dividend yields for these REITs.
But dividend yield is a simple math equation that divides dividend per share by share price. There's an important relationship here with regard to Annaly that investors need to see. Over the past decade, Annaly's dividend has trended steadily lower. Yield and stock price move in opposite directions, because of that math equation noted above. Thus, in order for the yield to stay high, the stock price has had to fall. The chart below shows what has happened.
As you can see, the share price tracked the dividend lower, thus maintaining the dividend yield at a high level. That's not a great outcome for investors if they bought Annaly expecting to live off the income it generated. Basically, they wound up with less income and suffered a capital loss, too!
Other REITs have had far better returns
This is where it is interesting to compare Annaly to other REITs. The easiest way to do this is to look at total return, which assumes dividend reinvestment. Annaly's total return over the past decade was roughly 40%. The average REIT provided investors with a total return of 80% or so. And Realty Income's total return was roughly 120%.
NLY Total Return Level data by YCharts
Realty Income is generally considered to be a fairly low-risk REIT. In fact, it has trademarked the name "The Monthly Dividend Company" specifically to emphasize the importance it places on returning value to investors via a regular dividend. The dividend has been increased for 29 consecutive years at a slow and steady rate of around 4.4% annualized. It isn't exciting, but it is reliable.
In some ways, it's the exact opposite of Annaly. And while the chart above shows that the rising interest rate environment has taken some wind out of Realty Income's stock price, the share price has, overall, tended to rise along with the dividend. So while investors started with a lower yield, they benefited from a growing dividend payment and an increase in capital over time. That's a win/win.
NLY Dividend Per Share (Quarterly) data by YCharts
But there's one more telling statistic to look at. While Annaly's dividend per share per quarter was much higher than that of Realty Income a decade ago, the dividend is now lower. Slow and steady sometimes really does win the race.
Don't fall for a high yield
Annaly and Realty Income operate very different businesses. Annaly is a mortgage REIT, which means it invests in debt securities, and Realty Income is a traditional property-owning REIT. That's something to consider, but if you are looking for dividends you can't ignore the very clear trends that show an investment in Realty Income easily provided income investors a better outcome over the past decade. Even the average REIT would have been a better choice.
The key takeaway, however, is that investors looking to live off of passive income shouldn't focus on yield alone because sometimes such a myopic focus can lead you to fall well short of your goals.
