Annaly Capital Management (NLY +1.03%) has an enticing 14%+ dividend yield backed by a dividend that was just increased. Some on Wall Street believe that the safest dividends are those that have just been raised. But don't let greed drive your decision-making; there's more to know about Annaly than just the size of its dividend yield if you want to become a millionaire someday.
Annaly's business model is risky
Annaly Capital is a real estate investment trust (REIT). However, unlike most REITs, it doesn't purchase properties. Traditional REITs essentially do what you would do if you owned a rental property, but they do it on an institutional scale. Annaly buys mortgages that have been pooled into bond-like securities. This is a vastly different business model, one that would be very hard for a small investor to replicate in any way.
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Essentially, Annaly aims to earn the difference between the interest it earns from the mortgage securities it buys and its costs. Those costs include general operating expenses, as well as the cost of leverage. A significant portion of the leverage Annaly uses amounts to loans backed by the mortgage securities it owns. This is not a low-risk business.
Moreover, unlike a physical property, mortgage securities trade all day long, leading to swift changes in the value of the portfolio. Factors such as interest rates, housing market dynamics, and even mortgage repayment rates can impact mortgage security prices. It would be hard for most investors even to track what's going on here.
Basically, mortgage REITs (mREITs) like Annaly should probably be owned only by more active and perhaps more aggressive investors -- notice that statement didn't include dividend investors.
You can't rely on Annaly's dividend
If you are trying to build wealth with dividend stocks, Annaly won't be a good fit for your portfolio. The chart above shows you all you need to know. The orange line is the annual dividend, which has been highly volatile. And up until the recent increase, it had been heading lower for years. The purple line is the stock price, which has been just as volatile as the dividend, and it, too, has been trending lower for years.
A lofty dividend yield hasn't translated into a reliable and perhaps growing income stream, which is what most long-term dividend investors are really looking for. But there's an important nuance here, as Annaly Capital isn't actually focused on the dividend per se; it's focused on generating total return. That assumes that dividends get reinvested, not spent on daily living expenses.
If you are focused on total return, Annaly has been a win. Notice in the chart above that its total return has kept pace with that of the S&P 500 (^GSPC +0.84%) over time. But the two don't move in lockstep, which makes Annaly an interesting candidate for adding to an asset allocation model, as it offers attractive diversification potential. While dividend investors may not find Annaly to their liking, asset allocators may like it a great deal.
NYSE: NLY
Key Data Points
Can Annaly help you build a seven-figure portfolio?
Annaly Capital's ability to help you reach millionaire status depends greatly on what you are trying to achieve when you buy a stock. If the goal is to generate a reliable and growing income stream, even if you aren't yet using that income, history suggests that Annaly will likely be a big letdown. It just isn't focused on that goal.
However, if you are laser-focused on total return and like to have a portfolio diversified across different asset classes, this mREIT could be right up your alley. Just go in knowing that dividend reinvestment is what lets Annaly meet its total return goal.
