A real estate investment trust is a company that owns, and in most cases operates, income-producing real estate. By law, REITs must distribute at least 90 percent of their taxable income to shareholders annually in the form of dividends, making them a popular choice for income investors.
REITs come in a variety of flavors. There are REITs that specialize in retail space, health care facilities and even self-storage operations.
One REIT sector that has witnessed explosive growth the last several years, and because of it has attracted increased scrutiny by regulators, is mortgage REITs. These are publicly traded companies that borrow funds to invest in real estate debt, rather than actual real estate. According to a recent Wall Street Journal report, mortgage REITs are seen by some financial regulators as a source of market vulnerability.
Many see a bubble, similar to what caused the financial crisis of 2008-2009, looming, largely because mortgage REITs have quadrupled their assets to more than $400 billion since 2009, according to WSJ.
The two largest mortgage REITs are American Capital Agency Corp. (NASDAQ:AGNC). and Annaly Capital Management, Inc. (NYSE:NLY). Combined they own $235 billion in assets. American Capital Agency Corp. (NASDAQ:AGNC) is a REIT that invests exclusively in single-family residential mortgage pass-through securities and collateralized mortgage obligations on a leveraged basis. Annaly owns, manages, and finances REITs, including mortgage pass-through certificates, and collateralized mortgage obligations.
Below is a comparison of the attributes and performance of these two industry heavyweights.
Market valuations: There is very little difference in their valuation ratios. As of May 1, Annaly Capital Management, Inc. (NYSE:NLY) traded at a price to earnings ratio of 9.3 and a price-to-book ratio of 1.01. American had a lower P/E of 8, and a slightly higher price-to-book ratio of 1.05.
Recent stock performance: American Capital Agency Corp. (NASDAQ:AGNC)’s 52-week high was set in September 2012 when it traded at $36.77. Since then, it has fallen to a low of $28.08 in January and has rebounded to its current level of about $33.
Annaly Capital Management, Inc. (NYSE:NLY) has followed a similar pattern. Its 52-week high also was set in September at $17.75, before it hit a bottom of $13.72 in January. It has since rebounded to its current level of just under $16.
Management effectiveness: When it comes to the ratios that measure the effectiveness of management to earn the highest returns on its assets, investments and equity, the two companies have performed nearly equally in the last 12 months. However, American has earned better average returns over the last five years.
For the trailing 12 months, Annaly Capital Management, Inc. (NYSE:NLY) provided a return on investments of 10.4%, a return on assets of 1.3%, a return on equity of 11.6% and a net profit margin of 59.9%. Its average ROA for the last five years has been 0.5%, while its average ROI was 3.4% and its average net profit margin was 15.8%.
American Capital Agency Corp. (NASDAQ:AGNC)’s returns for the trailing months have been 11.9% on equity, 1.3% on assets. and 11.7% on investments, with a net profit margin of 65.4%. The company’s five-year average ROI was 12.8%, and its ROA was 1.4%. American Capital Agency Corp. (NASDAQ:AGNC) has produced much higher consistent net profit margins than Annaly Capital Management, Inc. (NYSE:NLY), with a five-year average of 67.1%.
Recent earnings report: American Capital Agency Corp. (NASDAQ:AGNC) reported first-quarter net income of $231 million, about a third of what it earned in the same period in 2012 and a fourth of its net income total from the previous quarter. The company has grown its net income considerably in the three full years prior to this quarter, from $118.6 million in 2009 to $1.28 billion last year.
Annaly Capital Management, Inc. (NYSE:NLY) reported first-quarter 2013 net income of $870.3 million, down from the $901.8 million in booked during the same period in 2012. The company’s 2012 net income of $1.74 billion was nearly six times what it earned the previous year, though still less than the nearly $2 billion it earned in 2009.
Analyst ratings: Of 18 analysts following Annaly, two each have buy and strong buy ratings, one rates the company as underperform, and the remaining 13 rate it as a hold. Sentiment toward American is stronger, with three strong buy ratings, nine buys and six holds.
Dividends and yield: As expected, both companies pay out sizable dividends, with the advantage based on current yield going to American, which delivers a $5 annual dividend, currently yielding 15%. Annaly’s annual dividend is $1.80, with a yield of 11.3%.
If you are not comfortable trying to pick the best value among these or the many other mortgage REITs, you can instead opt for an industry exchange traded fund. One of the most popular is below.
iShares Mortgage REIT Capped ETF
This is the most popular mortgage REIT ETF on the market. It had net assets of just over $1 billion as of March 31, 2013. It holds 31 REITs, including Annaly (21% of its holdings) and American Capital (17.68%). The ETF charges investors 48 basis points a year.
REM has a year-to-date return of 18.47%, a one-year return of 26.64%, and three and five-year annualized returns of 12.79% and 2.35%, respectively.
Overall, nearly everyone can benefit from having real estate exposure in their portfolio, especially now when the industry is rebounding. Deciding between American and Annaly is a tough decision, and may come down to whether you want the additional risk associated with the leverage of American – this creates a risk vs reward decision. However, in the end, many people make the decision based on the larger dividend of American – nearly 4% higher than Annaly. For those who are still undecided, the iShares ETF gives you an opportunity to invest in both American and Annaly, along with other REITs, which can help diversify your portfolio and reduce the risk associated with a large investment in a single company.
The article REIT Battle: AGNC v NLY originally appeared on Fool.com is written by Daniel Murray.
Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.
