There's a newfound confidence in the stock market this year, born of fundamental drivers including an improving economy and a pushing forward of political problems. Stock market gains have begun to draw in capital from individual investors and institutions which had been keeping capital safe, choosing now in favor of the riskier equity asset class (stocks). In such a scenario, you might have expected money flows to target capital appreciation from the many stock fund options. However, I have noticed income oriented stocks like American Capital Agency (NASDAQ:AGNC) doing just as well if not better than the market in some cases. There's a good reason for that
The SPDR S&P 500 (NYSEARCA:SPY) is higher by 9.6% year-to-date through March 11, 2013, while American Capital Agency shares are up 13.3%, while offering a 15.4% dividend yield to boot. Gains have come to the market for many reasons, some good and some just less bad (read politics). Disregarding the most recent reporting of GDP and the Employment Situation, the economy has been growing in the U.S. The financial crisis is but a memory to most. Europe has moved past its own sovereign debt crisis, though it continues to contend with economic recession and disgruntled citizens who are struggling due to austerity measures. And with the debt ceiling issue finally recognized for its great importance, and the fiscal cliff mitigated, there's little to get in the way of stocks today, and so they are rallying on P/E expansion.
Individual investors are taking notice too, with a firestorm of capital flowing into equity mutual funds. In the week ending March 6, the four-week moving average of capital flows into equity funds measured $5.8 billion. A good portion of that capital is coming out of money market funds; average outflows measured $9.7 billion there. I think it's also clear that capital is coming out of gold and precious metal relatives, with the SPDR Gold Shares (NYSEARCA:GLD) down 5.6% year-to-date and the iShares Silver Trust (NYSEARCA:SLV) down 4.5%.
Needless to say, when money flows into stock funds, it tends to be spread out into various strategies. American Capital Agency , Annaly Capital (NYSE:NLY) and the mortgage REITs have thus far benefited from capital flows into equity funds because many of those funds are income funds, which buy dividend paying stocks like AGNC. American Capital, with its standout dividend yield, offers institutional income investors an option that is hard for many mutual fund managers to pass up. Now, there are a few good reasons why I would be concerned about owning the stock for too long if the economy progresses as I expect. However, I have come to realize that my long-term view will be overwhelmed by this capital flow driver in the near-term, and I'm therefore recommending the stock over the short-term.
As the rally gains momentum, assuming no change to positive economic trends and no unexpected event, capital should get more discriminating and head to riskier high-beta names for outsized returns. That should lead them away from the mortgage REITS like American Capital Agency and Chimera Investment (NYSE:CIM). However, AGNC will still receive its share of income directed capital. Over the longer term, if interest rates begin to rise as significantly as I believe they could, then investors could face special risk in the mREITs. For now though, American Capital Agency should keep gaining on focused mutual fund flows.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.