Invesco Mortgage Capital Inc (IVR), Annaly Capital Management, Inc. (NLY): This REIT Is Diversifying to Produce Stable Returns

Invesco Mortgage Capital Inc (NYSE:IVR) is a mid-cap mortgage REIT that makes money from capital gains and rent, but also interest. That’s why it’s classified as a hybrid mortgage REIT. It reported stronger than expected EPS for the first quarter and I think the company will report strong results going forward.

Current mix

The company has investments in fixed rate and adjustable rate residential and commercial mortgage backed securities. According to fair values, around 72% of the company’s entire investment portfolio is Agency MBS, 17% are non-Agency RMBS, and 11% are commercial mortgage backed securities or CMBS. The company has a large proportion of 30-year fixed rate securities, besides the 15-year fixed rate securities. All this helps to diversify its investment portfolio.

Diversification equals higher yields

Its expansion into residential loan securitization, (along with attractive opportunities in AAA residential mortgage backed securities), powered by new issue CMBS, should stabilize yields. Unfortunately, recent funding actions have resulted in a higher cost of funds.  Fortunately, this provides a more stable funding source as it has a lower reliance on repo financing.

Through incremental investment income, as well as attractive AAA RMBS and CMBS opportunities, I’m confident it will be able to maintain its current dividend rate, despite management’s cautious outlook.  You can also expect further upside from commercial real estate loans and investments in GSE risk sharing securities.

Key growth drivers

Invesco Mortgage Capital Inc (NYSE:IVR) has been able to contain some of the pressure on its asset yields through its non-MBS investments. Its expansion into non-MBS helps mitigate the ongoing agency yield compression. Agency yields are under tremendous pressure due to Fed’s ongoing Agency MBS purchases. In order, to keep the long-term mortgage rates low, the Fed has been buying Agency MBS, which resulted in a price hike. Since the price and the yield of a fixed income instrument are inversely proportional, the yields on these MBS fell.

Higher leverage levels will also help the company generate a higher return of equity in the coming future. Its total leverage of 6.4 times will allow the prepayment protected Agency securities and high-rated non-Agency investments more room to increase leverage.  And that’s ok, because its leverage is still below historical levels.

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