By Amy Calistri, DividendOpportunities.com
Investors have been asking me about this stock for weeks. And I don’t blame them…
The stock is yielding more than 18% right now. That high yield comes on top of a 7 million share buyback announcement that this company made just weeks ago.
But underneath that seemingly good news are some serious questions. And those questions suggest that Invesco Mortgage Capital (NYSE: IVR) might be in trouble.
IVR is a mortgage REIT. The company borrows money or raises capital at cheap rates, and then uses that money to buy mortgage-backed securities — pooled groups of mortgages — that pay higher yields.
For instance, a mortgage REIT might take out a loan at 2%, invest in a pool of mortgages earning 5%, and then pocket the difference. That difference between borrowing costs and what it earns on the basket of mortgages is called the “spread.” The larger the spread, the more money the REIT earns, and the more money available to distribute to investors.
But aren’t mortgage REITs risky? Aren’t the mortgage-backed securities they invest in the same ones that led to the housing crisis?
Well, when it comes to mortgage-backed securities, there are two kinds. Some mortgage REITs primarily own mortgage-backed securities backed by agencies such as Freddie Mac and Fannie Mae. Fannie and Freddie are in turn backed by the government. That means these mortgage-backed securities are essentially guaranteed by Uncle Sam. That makes the securities pretty safe.
On the other side of the coin, REITs can make more income on mortgage-backed securities that aren’t guaranteed by these agencies. This means they can make more money, but then they are on the hook if the mortgage goes into default.
The value of non-agency guaranteed securities has been dropping. And IVR holds a slug of non-agency mortgage-backed securities — making up roughly one-third of its portfolio.
IVR also saw a decrease in net income in the quarter ended September 30, dropping to $0.79 per share from $1.01 a year earlier. And this could be an ongoing concern. In a recent article from Bloomberg, the company’s Chief Investment Officer said that over the last two months IVR was having to pay higher short-term borrowing rates due to the riskiness of its portfolio holdings.
Meanwhile, the REIT has continued to cut its dividend. In March it made a payment of $1.00 per share. The dividend then fell to $0.97 per share, then to $0.80, and then to $0.65 per share in the most recent quarter. That makes the current yield of more than 18% questionable at best.
Most mortgage REITs are adding to their portfolios in an effort to generate enough income to support their dividends. And IVR has done that in the past year. But in a surprising move, on December 13 the REIT announced a share buyback plan that would allow it to repurchase up to seven million shares. The resulting fewer shares on the open market could marginally support net income on a per-share basis. However, it doesn’t begin to offset the 60 million new shares it issued in 2011 alone.
I’m not sure I understand IVR’s plan to maintain its dividend. Of the mortgage REITs I have studied over the last two months, IVR is the one I would be most concerned about holding. It could very well bounce from here in the short term, but I’m not comfortable with its position for the long term, even with a high yield.
Always searching for your next paycheck…
Amy Calistri
Chief Investment Strategist — The Daily Paycheck
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Disclosure: Neither Amy Calistri nor StreetAuthority owns shares of IVR.
