AGNC Investment (AGNC 1.35%) pays a prodigious dividend. The mortgage-focused real estate investment trust (REIT) currently yields 15.7%. That's more than 10 times the S&P 500's dividend yield of 1.4%.
The mortgage REIT generated more than enough income to cover its monster payout in the first quarter. While it hit some turbulence early in the second quarter, it should be able to continue earning enough to cover its monthly dividend in the near term.
NASDAQ: AGNC
Key Data Points
A solid quarter
AGNC Investment reported $0.48 per share of comprehensive income during the first quarter. That easily covered the REIT's dividend payments, which totaled $0.36 per share for the quarter, or $0.12 monthly. With income outpacing dividend payments, the REIT's tangible net book value increased by $0.14 per share to $8.84. That enabled the mortgage REIT to generate a 5.7% economic return for its investors.
The company continued to benefit from a favorable environment for fixed-income investors, which began to develop late last year. CEO Peter Federico noted in the first-quarter earnings report: "Particularly beneficial for Agency mortgage-backed securities ("Agency MBS") investors in the first quarter, interest rate volatility declined meaningfully, Agency MBS spreads remained relatively stable, and the Federal Reserve indicated that short-term rates had likely reached their pinnacle for this monetary policy cycle. Additionally, the Federal Reserve noted that a reduction in the pace of its balance sheet runoff would commence fairly soon, signaling that the quantitative tightening process was reaching its conclusion."
With interest rate volatility moderating and spread between the income generated by its MBS investments and its cost of capital stabilizing, the REIT generated solid earnings during the period. The REIT's average cost of funds was 1.58%, compared with an average asset yield of 4.56%.
AGNC Investment took advantage of the favorable environment to expand its portfolio. It raised $241 million in equity by issuing 25.1 million shares in the period. It leveraged that investment to grow its portfolio to $63.3 billion, up from $60.2 billion at the end of last year. It ended the period with a 7.1 leverage ratio, up from 7.0 at the end of 2023.
Optimism despite renewed challenges
The first quarter "unfolded largely as expected and in a positive way," commented Federico in the first-quarter earnings release. Unfortunately, that hasn't carried over into the second quarter. The CEO noted, "The start of the second quarter has illustrated that challenges remain." He highlighted that "in April, interest rates and interest rate volatility increased meaningfully as the timing and magnitude of rate cuts in 2024 became increasingly more uncertain and as the conflict in the Middle East escalated."
Many investors initially expected that the Federal Reserve would start lowering the Federal Funds Rate early this year as inflation seemed to moderate toward its 2% target. However, inflation has proven to be stubbornly high. The Consumer Price Index rose 3.5% in March, which was higher than expected. That drove the market to push back its rate cut expectations until later this year.
While interest rate volatility affects the spreads AGNC Investment earns on its ABS investments, Federico noted that "the underlying fundamentals for Agency MBS continue to give us reason for optimism." He believes the company's business model puts it in a position to "benefit from these favorable investment dynamics as they evolve over time." Furthermore, the company's CFO, Bernice Bell, noted that while its leverage ratio ticked up in the first quarter, it maintains an "extremely strong liquidity position." The REIT ended the first quarter with $5.4 billion of cash and Agency MBS.
These factors seem to suggest that the REIT's monster dividend is on solid ground. It has the liquidity to navigate through the renewed market challenges as it awaits the eventual improvement in conditions once the Federal Reserve starts cutting rates, which many still expect will occur later this year.
A prodigious passive income producer
AGNC Investment's business model uses leverage to boost the return it can earn from low-risk Agency MBS. That enables it to make lots of money in favorable market conditions like the first quarter. While the current quarter is more challenging, the REIT believes it can navigate this period. It looks like its monster payout is safe.
However, income-focused investors must be comfortable with the risks of investing in this REIT, including the fact that it could cut its big-time dividend if market conditions deteriorate significantly. While a reduction seems unlikely in the near term, investors can't bank on this dividend's long-term sustainability. They should view it as a higher-risk, higher-reward income stream.
