Chimera Maintains $0.09 Dividend, But Likely Two-Thirds Is A Return Of Capital

| About: Chimera Investment (CIM)

On Wednesday, Nov. 28, Chimera Investment Corporation (NYSE:CIM) declared its dividend for the fourth quarter. The dividend was maintained at $0.09 per share, payable on Jan. 25, 2013, to shareholders of record on Dec. 31, 2012, with an ex-dividend date of Dec. 27, 2012. Chimera has maintained this dividend rate since it announced on Aug. 7 of this year that it was initiating a plan to uphold a $0.09 quarterly dividend for the third and fourth quarters of 2012.

Additionally, even though Chimera is paying out $0.09 cents, investors should understand that the entire dividend is not income. When Chimera first declared this plan, the company noted that portions of its quarterly payouts might be a return of capital. Chimera also just noted that of the $0.29 it has paid out in the first there quarters, $0.06 "is currently expected to be characterized as a return of capital for federal income tax purposes, although this estimate will not be finalized until the company files its 2012 tax return."

Given that Chimera only started to return capital in the third quarter, and that none of the first two quarter's dividends should have had any return of capital, it is likely the same as stating that of the $0.09 paid out last quarter, $0.06 is estimated to be a return of capital. Therefore, it appears probable that $0.06 of this quarter's dividend would also be a return of capital, and possibly a greater sum when you consider that Chimera's ability to pay out from income has continually trended lower over the last several quarters.

Chimera is a hybrid non-agency mortgage REIT. Mortgage REITs (mREITs) buy mortgage paper as an investment or in order to re-securitize them and sell them to another mREIT or some other entity that is investing in real estate loans. Non-agency and/or hybrid mREITs like Chimera -- and its peers such as MFA Financial (NYSE:MFA) and Invesco Mortgage Capital (NYSE:IVR) -- hold mortgage paper without government agency backing, as well as agency-backed paper.

Chimera is related to Annaly Capital Management (NYSE:NLY), the largest agency-only mREIT, and is managed by FIDAC, a wholly owned subsidiary of Annaly. Along with this current dividend declaration, Chimera also added that its board of directors and FIDAC agreed "to reduce the management fee to 0.75% from 1.50% per annum," and that "the reduction is effective as of Nov. 28, 2012, and will remain in effect until the company is current on all of its filings required under applicable securities laws."

Annaly's FIDAC also manages Crexus (NYSE:CXS), a commercial mREIT that Annaly recently announced it is interested in acquiring in an attempt to diversify out of agency-only residential mortgage backed securities, as the mREIT searches for yield. Since then, Chimera has benefited from the increased possibility that Annaly might also attempt to acquire it. Such a deal is far from a sure thing.

It is possible that this reduced-fee period may be brief, but there is no certainty. In mid-September, Chimera stated that the New York Stock Exchange gave the company until Jan. 15, 2013, to file its 2011 annual report on form 10-K with the Securities and Exchange Commission. The REIT did not file its 2011 annual report or any subsequent reports due to the reconsideration of how to appropriately treat its junk-rated non-agency residential mortgage-backed securities portfolio under accounting standards. Chimera's failure to provide adequate filings has generated a cloud of uncertainty around the company, as well as its management and bookkeepers. This fee reduction appears to be an acknowledgment of this seemingly irrefutable fact.

When Chimera first announced that it would maintain a $0.09 payout rate in the second half of 2012, the company also filed with the SEC, noting that each of the company's annual reports (10-Ks) since 2008, and all quarterly reports (10-Qs) since the third quarter of 2008, need to be restated. Chimera is still yet to file any of these quarterly or annual reports. Chimera previously noted that it does not expect its restatements to affect previously reported GAAP or economic book values, actual cash flows, past dividends, or taxable income.

Nonetheless, Chimera reported that for the total period at issue, it estimates its interest income will decrease by approximately $411 million, from $1.88 billion to $1.46 billion (a 21.8% decrease), and that net income is expected to decrease by approximately $695 million, from $1.06 billion to $367 million (a 65.5% decrease). Chimera also reported that it expects other than temporary impairment (OTTI) losses for the total term to increase by approximately $293 million from $190 million to $484 million. Additionally, realized losses on sales are expected to decrease by approximately $9 million, from $29 million to $20 million.

With each filing extension, the company commented that the accounting problems are related to the application of generally accepted accounting principles (GAAP) to its non-agency residential mortgage-backed securities portfolio. Chimera has reported that the issues relate to accounting of OTTI of non-agency residential mortgage-backed securities that are rated as junk.

It seems as though the primary cause of the problem comes from the fact that a good chunk of their now junk-rated non-agency RMBS paper existed before 2008 and initially traded with exceptionally high credit ratings, and that the company continued to use the same accounting treatment. Another issue is that Chimera repackaged some of the original securities, selling some portions while keeping others, which appears to have only further complicated the accounting.

Presuming Chimera's estimate that $0.06 of the $0.09 quarterly dividend will be a return of capital is accurate, the actual dividend would be $0.03 if Chimera were not returning capital. Therefore, this appears to in fact be a dividend reduction. Given the lack of clarity in the company's accounting and failure to file any reports in over a year, it is hard to presume this estimates will not change. Despite all this, and the fact that Chimera had already stated it would be paying $0.09 this quarter, it is probable that the market will react reasonably favorably to the mere confirmation of that fact.

Disclosure: I am long CIM, NLY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.