Given the prevailing macroeconomic environment, where the 10-year Treasuries are offering 2.06%, I present to you a portfolio with high dividend yield. I recommend investors include this portfolio as part of their retirement portfolio. While mREITs offer elevated dividend yields, they are not without risks. Therefore, before including the following stocks one should consider potential risks involved. The remaining of the investment thesis aims to discuss the portfolio and each of the stocks within the portfolio briefly.
The portfolio under consideration consists of three hybrid mortgage REITs. Hybrid mortgage REITs are invested in a combination of mortgage backed securities in order to diversify away their risks. Hybrid REITs are among the most favored investments for the purpose of enhancing the dividend yields. Mortgage REITs have a complex business model and they have suffered a lot at the hands of the Fed. However, since hybrid mREITs invest in Agency and non-Agency RMBS, they have very well outmaneuvered the Fed. The newly constructed portfolio offers a divided yield of 14.7% with a capital appreciation potential of 4%. This makes the total return to be around 18.7%. The stocks included in the portfolio include Western Asset Mortgage Capital (NYSE: WMC), Invesco Mortgage Capital (NYSE: IVR) and Apollo Residential Mortgage (NYSE: AMTG). For these hybrid mortgage REITs, analysts have an outperform recommendation.
Western Asset Mortgage Capital
With a market cap of around $530 million, Western Asset Mortgage is one of the rarely followed hybrid mortgage REIT, which presents an upside of around 2%. According to Reuters, the stock is currently offering a dividend yield of 16.3% and trading at a moderate 2% premium to its book value.
WMC has investments in both, Agency and non-Agency residential mortgage backed securities. At the end of the fourth quarter, WMC reported that around 94% of the company's investment portfolio was Agency RMBS, while the remainder was non-Agency. Within the Agency holdings, the 30-year fixed rate security dominates covering 93% of the entire Agency holdings. The remainder is 20-year fixed rate MBS. The company reported 7 bps expansion in its average asset yield, when most of the other REITs were faced with compressed asset yields due to the Fed's QE3. However, I believe the company needs to manage its expenses in order to benefit from any asset yield expansion in the future.
Apollo Residential Mortgage
Apollo Residential has a market cap of $690 million and yields 12.6%. The stock is currently trading at 25% discount to its book value, according to Reuters. Analysts have a mean consensus price target of $23.3 for the stock that is currently exchanging hands at a price of $22.25. Therefore, you can expect an upside of around 5% and a total return of around 20% from AMTG.
Around 86% of the company is invested in Agency RMBS while the remainder is non-Agency RMBS. Within the Agency portfolio, 87% are 30-year fixed rate MBS while the rest are 15-20 year fixed rate and Interest Only securities. The fourth quarter average asset yield remained the same compared to the prior quarter, however, interest income grew 27% over the same time period. The company also reported a 10 bps expansion in its fourth quarter net interest rate spread. However, expense management remained a headwind for the company.
Invesco Mortgage Capital
Invesco Mortgage is the largest of the hybrid mortgage REITs considered in this investment thesis. It has a market cap of 2.85 billion and offers a dividend yield of 12.3%. The stock is currently trading at a moderate 2% premium, according to Reuters. You can expect a capital appreciation potential of around 5.5% for Invesco Mortgage.
Unlike the aforementioned two hybrid REITs, Invesco is also invested in commercial mortgage obligations and Agency CMOs. Both form 11% and 3% of the entire fourth quarter end investment portfolio. Besides, Agency RMBS form the largest part (69% of the entire portfolio), followed by non-Agency RMBS at 17%. During the most recent quarter, IVR reported 3.5% increase in its interest income (top line) while it also reported a moderate 4 bps decline in its asset yield. Overall, the bottom line for IVR surged 7.5% compared to the prior quarter.
For the aforementioned three hybrid mREITs, analysts have an outperform rating and are favored over their Agency counterparts. IVR, AMTG and WMC offer elevated dividends with diverse investment portfolios. Since analysts are bullish on the stocks, investors can expect an upside. Therefore, I recommend investors buy the stocks and include them as part of their retirement portfolio.
Additional disclosure: The article has been written by Equity Whisper's Financials Analyst. Equity Whisper is not receiving compensation for it (other than from Seeking Alpha). Equity Whisper has no business relationship with any company whose stock is mentioned in this article.