My investment goal is to generate a reliable and growing stream of income from a portfolio of stocks. I have a preference for high-yield investments because they generate more income, but there's almost always a trade-off to be made: The higher the yield, the greater the trade-off.
With that in mind, I wouldn't touch AGNC Investment (AGNC 2.34%) with a 10-foot pole, because the trade-offs are just too great for me.
What is AGNC Investment?
AGNC Investment is structured as a real estate investment trust (REIT). I like this corporate structure because it's designed to pass income on to investors and avoids corporate-level taxation. Put a REIT into a tax-advantaged Roth account and you can avoid taxes altogether. But AGNC isn't a typical REIT. It's a mortgage REIT.
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A traditional property-owning REIT is fairly easy to understand. It will buy a property and lease it out to tenants. A mortgage REIT like AGNC buys mortgages that have been pooled into bond-like securities, often referred to as something like a collateralized mortgage obligation (CMO). Generally, leverage is employed so that more CMOs can be bought, with the CMO portfolio acting as collateral for the loan. The goal is to earn the spread between the interest from the portfolio and the interest costs on the debt employed to build the portfolio.
There are more moving parts here than I care to track. Interest rate changes can cause havoc, and so can property market trends, mortgage repayment trends, and mortgage default rates, among other things. In some ways, a mortgage REIT is more like a mutual fund than a company.
The proof is in the dividend
The truth is that AGNC Investment really isn't made for an investor like me. It's more appropriate for those who focus on asset allocation, using the REIT as a diversification tool to add mortgage exposure to a much broader portfolio. While that might include some small investors, AGNC is really most appropriate for large investors like pension funds and insurance companies. A couple of charts will help explain this point.
The total return AGNC achieved over the past decade was around 50%, even though the stock was down 50%. How does that make sense? The answer is that total return includes the reinvestment of dividends. And the yield here is massive, at 15.8%. The dividend yield has fluctuated over the past decade, but it's always lofty. So every dividend is buying a lot more shares. But this is where we start to get into the big problem for me.
There's a lot going on in this chart, but every line is important. The blue line shows that the yield has remained elevated throughout that last decade, only falling sustainably below 10% for a short period of time. The orange line is the dividend, which headed steadily lower over the past decade. The purple line is the stock price, which has followed the dividend lower, thus keeping the yield high throughout the span. (Yield and price go in opposite directions.)
While the total return graph shows that AGNC could have a place in a portfolio for the right type of investor -- one who's total return-focused -- the dividend graph explains why this stock would be a terrible fit for my portfolio. Basically, my goal is to eventually start using the income my portfolio creates. If I did that with AGNC, I'd be left with less income, thanks to dividend cuts, and less capital, thanks to stock price depreciation. That's about the worst outcome I could hope to achieve.
AGNC is not for the average investor
There's nothing inherently wrong with AGNC Investment. The company does exactly what it sets out to do. The problem is that the goals of this mortgage REIT just don't align with my goals. And for that reason, this is a stock that I wouldn't add to my portfolio no matter how high the yield got. If you're tempted by AGNC's massive dividend yield, you should make sure you truly understand what it does and how it fits into your portfolio. My guess is that most average investors won't want to own it any more than I do.
