Required by law to pay out at least 90% of their taxable income, mortgage real estate investment trusts, or mREITs, can have a dividend yield ranging over 10%. This more than doubles what is normally considered a "high" yield.
But there is a catch; since no company's earnings are guaranteed, and most mREITs do nearly the same thing, choosing the right company is not only important, it can get darn complicated -- that's why I'm going to simplify it.
To find the best mREIT stocks, you need to get a feel for the industry, find quality management, and look for companies with an adaptable strategy.
3. The usual suspects
In general, mREITs are grouped by the assets they hold, and these can be broken into roughly three categories.
First, "agency" securities are pools of plain-vanilla mortgages packaged by Fannie Mae, Freddie Mac, or Ginnie Mae. Ginnie Mae guarantees their loans against default, and investors pay a small fee to Fannie and Freddie for a guarantee against default. These securities are normally low-yield, but very safe.
Second, "non-agency" securities are packaged by any entity other than Fannie, Freddie, or Ginnie. These assets tend to be more unique, potentially higher risk, and higher yield. Very large loans (jumbo) and low-credit quality loans (subprime) fall in within this category.
Last is a mixed bag of everything else. This could be investing in physical property, owning actual loans, mortgage serving rights -- where the company acts as intermediary between the lender (homeowner) and mortgage holders (mREIT/bank/insurance company) -- or any other asset that's not a security.
Show below is a list of some of the more popular mREITs and their major assets.
| Company | Major Asset Classes | Dividend Yield | 3-Year Total Return |
| American Capital Agency (AGNC) | Agency Securities | 11.2% | 38% |
| Annaly Capital Management (NLY) | Agency Securities | 10.7% | -1.8% |
| ARMOUR Residential REIT (ARR) | Agency securities | 14.4% | -5.2% |
|
CYS Investments (CYS) |
Agency securities | 14.2% | 19.8% |
| Hatteras Financial (HTS) | Agency securities (ARMs) | 10.5% | 7.6% |
| Invesco Mortgage Capital (IVR) | Agency/non-agency/CMBS | 11.7% | 78.4% |
| JAVELIN Mortgage Investment Corp. (JMI) | Agency/non-agency | 13.6% | *-9.5% |
| PennyMac Mortgage Investment Trust (PMT) | Mortgage loans/MSR | 11.1% | 89.7% |
| Two Harbors Investment Corp. (TWO) | Agency/non-agency | 10.2% | 88.8% |
Source: YCharts and Yahoo! Finance. *Public company for less than three years.
As mentioned early, most companies will operate in a pretty similar fashion. However, nearly every company will have some differentiating quality. Your job as an investor is to figure out what that is, and determine whether or not it gives the company an advantage. The more mREITs you get to know, the better you will understand the potential risks -- and the easier this process becomes.
2. Management
Because mREITs don't have brand names, patents, or any lasting advantage we normally associate with great businesses, they depend heavily on management's strategy and foresight.
Most importantly, managing the company's portfolio -- and the myriad of risks that go along with that job -- happens behind the curtain, so it's important to find CEOs that communicate their strategies well and have a history of following through.
While there are several great management teams, two that I think do a particularly great job not only with their portfolio, but with communicating strategy are Gary Kain with American Capital Agency and Thomas Siering and William Roth with Two Harbors.
1. Always look forward
Past results don't always predict future returns -- and with mREITs, this is especially true -- however, if you have a feel for the industry and understand the strategy, you can look forward and determine if that strategy will continue to work.
For instance, following the housing collapse in 2009, banks were desperate to dump their defaulting loans. Betting that banks were overreacting and that the housing market would recover, Two Harbors and PennyMac Mortgage Investment Trust began buying up huge amounts of "distressed" assets. As we know now, the housing market did recover, and the two companies have made a killing.
If we're looking forward, however -- because there aren't tons of defaulting mortgages to buy at cheap prices -- this isn't a strategy that can continue to work as well as it has. So, both companies have had to adjust. More specifically, they've done this by investing in mortgage servicing rights, which is an asset class that performs well in a stronger housing market with potentially rising interest rates.
As an investor, you should always looks for those business that can adapt, or have business models that work in changing environments.
The last word
Getting a feel for the industry, determining what quality management looks like, and finding adaptable strategies isn't easy, but it can be rewarding. Because with some of the strongest dividend yields available, mREITs are among the best investments for putting cash in your pocket.
For those investors just starting with mREITs, or even for those who have followed them for years, I recommend Two Harbors and American Capital Agency as two great companies to start your search with.
