Annaly Capital Management Earnings: What to Expect Tuesday

Annaly Capital Management (NLY 1.33%) will release its quarterly report on Tuesday, and the mortgage REIT has bounced back sharply after a tough 2013. Yet even though peers American Capital Agency (AGNC 0.99%) and ARMOUR Residential (ARR 2.60%) faced many of the same struggles as Annaly over the past year, Annaly has some company-specific challenges it will have to overcome in order to complete a successful turnaround.

Coming into 2013, Annaly, American Capital Agency, ARMOUR Residential, and several other real estate investment trusts focusing on mortgages had enjoyed solid performance for years. The combination of low financing costs stemming from the Federal Reserve's zero interest rate policy and higher rates available from mortgage-backed bonds fueled high dividends for Annaly and its peers, attracting dividend investors seeking income.

Yet the threat of a reversal of the Fed's loose monetary policy last year pulled the rug out from under Annaly and other mortgage REITs. The question Annaly now faces is whether the recent respite from rate hikes will last. Let's take an early look at what's been happening with Annaly over the past quarter and what we're likely to see in its report.

Source: Annaly.

Stats on Annaly Capital Management

Source: Yahoo! Finance.

What's next for Annaly earnings?
Analysts have slightly scaled back their views on Annaly earnings, reducing their fourth-quarter estimates by a penny per share and full-year 2014 projections by $0.03 per share. The stock has turned upward lately, rising 3% since mid-November.

Annaly entered the quarter on a tough note, with its third-quarter results disappointing investors. Core earnings came in a nickel per share below what investors had expected to see, and book value continued to drop, having fallen by almost a full quarter from year-earlier levels. Although a slowdown in prepayments helped increase interest rate spreads marginally, Annaly's costs for its hedging strategies also increased to offset those gains somewhat.

But the big event for Annaly, American Capital Agency, ARMOUR, and others in the space came when the Federal Reserve in December actually began to pull back on its bond-buying activity under quantitative easing. However, the move didn't have the same effect some had feared, as long-term interest rates have actually dropped so far in 2014 despite every indication that quantitative easing could disappear by the end of 2014 or early 2015. Investors seemed to cheer the slow but steady pace at which the Fed plans to reduce its bond buying.

Still, there's still some question about whether Fed tapering will have a beneficial or detrimental impact on Annaly's financial position. On one hand, as the Fed buys fewer mortgage-backed securities, prices should logically decline, hurting the value of Annaly's assets. On the other hand, a potential rise in rates on mortgage-backed securities should increase the interest rate spreads between Annaly's borrowing costs and its interest income, boosting overall profitability.

Meanwhile, Annaly has gone through a huge shake-up. The death of former CEO and co-founder Michael Farrell has created chaotic moves in Annaly's management, with some key departures raising questions about the company's leadership going forward.

Yet at the same time, strategic moves such as increasing Annaly's portfolio of commercial loans in an effort to make its overall portfolio exposure more conservative could well transform what the mortgage REIT looks like in the future. Some believe it could help Annaly weather a rising-rate environment more successfully than sticking purely with agency mortgage-backed securities.

In the Annaly earnings report, look most closely at the way company leadership presents itself and works to deliver a message about the mortgage REIT's future. If Annaly can pull itself together, then it could go a long way toward establishing itself as a possible value play given its current discount to book value.

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