One Bulletproof REIT in the Midst of the Real Estate Mess

Jan. 9.09 | About: First Trust (FMY)

by Robert Williams

The U.S. housing market is walking the plank. Easy credit helped usher in an unprecedented period of rising home prices. But now those same lax credit standards have us caught in one of the worst slumps in recent memory.

According to the latest data, the inventory of unsold homes sits at 4.23 million, representing a 10.2-month supply at the current sales pace. For comparison’s sake, that’s as many homes as Delaware, North Dakota, South Dakota, Alaska, Vermont and Wyoming have people. In other words, an eager buyer these days is about as hard to find as a living dinosaur.

But before you abandon the beleaguered real estate sector altogether, you should know that opportunities for safe and steady profits do exist. In fact, I’ve found a handful that may well be the most attractive investments - given the abysmal state of the markets right now - this side of the credit crunch.

Investments That Pay Stock Dividends Like Clockwork

These investments all pay handsome stock dividends like clockwork. And they avoid the volatility swings that now define the stock market, too. What an enviable tandem to have in your portfolio as we embark on what could be another tumultuous year for stocks.

Even better, when the market rights itself - and the inevitable real estate recovery occurs - you’ll be perfectly positioned for a nice pop in the stock price, as well. (That’s right: You’ll own shares that trade on major stock exchanges, not the properties themselves.)

So as the credit crunch bites off more market capitalization nearly every day (we’ve already witnessed $28 trillion in wealth disintegrate before our eyes), the following REIT (real estate investment trust) has enjoyed a bulletproof status of sorts.

One REIT That Works In the Face of the Credit Crisis

Let’s take a look and examine exactly why this REIT is working in the face of the credit crisis.

First Trust/FIDAC Mortgage Income Fund (NYSE:FMY) invests exclusively in mortgages. The fund holds $100 million in mortgage-backed securities, the income from which allows it to pay a handsome 8% dividend yield. Now I realize that your instincts may be to skip to the next article after reading “mortgage-backed securities,” but before you do, understand that the fund didn’t lose a penny in 2008 and raised its dividend three times.

To understand how it pulled off this feat, you first have to know a little bit about the market for the securities the fund owns.

You see, the problem with mortgage-backed securities is that once it was discovered that many were backed by bad subprime mortgages, the market for trading them froze up. Thus, trading for the worst securities went “no bid,” which means there were no offers to buy. Using mark-to-market accounting methods, holders were forced to write down values to zero.

But First Trust’s net asset value declined only about 15% over the course of the year, which means the mortgage bonds it holds are the few still being actively traded through this credit crisis.

Dividend aside, there’s a capital appreciation component here, too.

When the day comes where mortgage-backed securities are in favor again (and it will happen), this fund’s share price will surge. So look past the bad apples and focus on the bulletproof.