Is This Security A Safe Haven? Absolutely Not

| About: Annaly Capital (NLY)

I read a bunch of articles every day here on SA. The authors are amazingly bright and talented, and I am able to learn more every day. Sometimes I will disagree with an article, but most of the time I just let it go as someone else's opinion. One article recently hit a nerve, however. It was about Annaly Capital (NYSE:NLY) being a "safe haven" stock.

The article stated this:

When it has the nearly undivided support of investor capital flows and when it operates around a sector of the economy where recovery is widely expected to continue, the answer is yes. So, then as the economy deteriorates, as I expect it to over the next several months, I believe Annaly Capital (NLY) will not. Besides my own beliefs, there's some hard evidence provided by historical data that shows Annaly Capital has safe haven appeal. Finally, for what it's worth, one major stock market pundit agrees as well.

Jim Cramer was the "major stock market pundit" by the way.

Let me be perfectly clear about this: I own shares of NLY and have been a strong supporter for a very long time. That being said, I was more than taken aback by this article, and so should every single investor who knows anything about the sector that Annaly plays in. It is anything but a safe haven, and I would state quite firmly that Annaly, as well as any other mREITs, is more of a risk dividend opportunity stock than anything else.

The author of the article does not note any of the risks associated with the stock and sector, but relies on less than defining comparisons to make his case. I also have nothing against Jim Cramer. He is bright, entertaining and has made a definitive name for himself that is admirable. However, if he made the remark that the stock was a "safe haven," I would tell him to his face that he should know better than that.

What Is A Safe Haven?

Investopedia defines a "safe haven" the following way:

An investment that is expected to retain its value or even increase its value in times of market turbulence. Safe havens are sought after by investors to limit their exposure to losses in the event of market downturns. However, what are considered safe havens alter over time as market conditions change, and what appears to be a safe investment in one down market could be a disastrous investment in another down market. Gold is typically considered a safe haven when currency markets are volatile. United States Treasury Bills are also considered a safe haven even in a tumultuous economic climate because they are backed by the full faith and credit of the U.S. government.

As far as I know, these are the only safe havens for cash, and even they are subject to volatility to say the least.

To tell investors that a stock in the mREIT sector is a safe haven is more than misleading, it could be dangerous. The entire sector is fraught with headwinds, many of which are not in the control of the company. If any of the headwinds come to pass, and they always do, an investment in any of the stocks in the sector will be hit very hard.

The Headwinds That Make This A Risk Investment

I am completely aware of the track records of Annaly, as well as the other huge agency mREIT, American Capital (NASDAQ:AGNC). Both have been stellar performers and both pay extremely rich dividends. That is why I own shares of NLY.

I consider it to be a risk dividend opportunity stock for these major reasons:

  • The Federal Reserve policy of purchasing $85 billion in longer term Treasuries and mortgage backed securities every single month pressures the yields down and compresses the yield curve.
  • Annaly, and any other mREIT, cannot compete with an agency that has the ability to access as much money as it needs, forever. The private sector is always at the whim of the public (Government) sector policies.
  • On any given day, Bernanke could announce even more money spent monthly on these securities. I am not saying it will happen, but Annaly cannot set policy, that's for sure.
  • If the Fed decides to end Operation Twist and the MBS buying, interest rates will rise. If they rise too quickly, Annaly would need to play catch-up to replace lower yielding income with the new higher yields, and they might not be able to do that fast enough.
  • If all of the Fed policies stay in effect, and the Government decides to put another homeowner program in place, like HAMP or HARP or MHA, then there could be yet another spate of refinancing (pre-payments) that could impact the earnings and the dividends of the stocks in this sector. By the way, the Government has just extended the HARP program through 2015.
  • If the Fed decides that inflation is an issue, and begins to end ZIRP (zero interest rate policies) and stops holding down longer-term yields, then interest rates could soar, and yields could rise so rapidly that the yield curve might become inverted. It would be extremely difficult for Annaly and other stocks in the sector to navigate through that environment without making dramatic dividend cuts. If the cuts are severe, there could be a rush to exit the stock, and the share price could plummet as well.

These are just the risks that are associated with the Federal Reserve and the Government. Please remember that the housing recovery has been propped up by the policies of these agencies. If the housing recovery stalls, and the market makes an about-face, there could be another serious round of foreclosures. If that occurs, the mREIT sector will take yet another serious blow.

The Bottom Line

There is a reason that I limit my allocation in this sector to a risk level. For NLY I will not put more than 4-5% into the shares. I also believe that right now is a good time to own shares of the company. I think we might be in store for a dividend hike in 2013.

Just because I feel that right now might be a good time to own the stock, it does not mean that this stock (or any other for that matter) is a "safe haven."

Keep your eyes open folks, the entire market is fraught with risks. I believe that the mREIT sector carries more risks than just about any other sector. Probably why we can enjoy the sweet dividends while they last!

Disclosure: I am long 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.