Armour Residential Snatches Defeat From The Jaws Of Victory

Sep.20.13 | About: ARMOUR Residential (ARR)

What a way to ruin momentum. Late on Wednesday, ARMOUR Residential REIT (NYSE:ARR) announced its dividend rate for the three months of Q4 2013. Armour's new monthly dividend will be $0.05 per share, a 28.5% reduction from the previous level of $0.07 per share. Needless to say, the market has reacted quite negatively to the news, sending shares of Armour down about 4%. This announcement could not have come at a worse time as Armour's share price had only recently started to recover, thanks to the Fed's tapering postponement. At the new dividend rate, Armour's forward dividend yield is now around 14.60%.

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Armour's Dividend History: Nearly quarterly dividend cuts

Since 2011, Armour's dividend has consistently been on the decline, falling 58% from $0.12 per share to the current $0.05 per share. Indeed, Armour's dividend seems to head in only one direction -- lower. This quarter's dividend cut would mark Armour's 6th dividend reduction in a mere 9 quarters.

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This time period was one with many different interest rate spread and subsequent MBS price scenarios. Other agency mREITs, such as Annaly Capital (NYSE:NLY) and American Capital Agency Corp (NASDAQ:AGNC), have generally seen softer dividend declines. Do note that both of these companies also recently announced dividend reductions, with NLY's dividend dropping 12.5% to $0.35 per share and AGNC's dividend declining 24% to $0.80 per share.

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Also notice that these dividend reductions have led to a severe decline in Armour's share price. In general, Armour's share price is highly correlated to its monthly dividend rate. This is mostly due to investors demanding a certain yield from the stock as mREITs are seen as high-risk investments. Since 2011, Armour has seen its share price decline about 45%, mostly in line with the rate of the dividend decline.

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Leverage Update

On September 6, Armour released a 8-K filing which provided an update to its portfolio status. The key takeaway here is that Armour has significantly reduced the amount of leverage it uses. According to the filing, between the end of Q2 2013 and August 30, or basically in either July or August, Armour sold $5.65B in agency MBS securities, thus reducing its leverage ratio to 6.7X from 9.8X.

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I have previously written that Armour's excessive leverage was a major risk factor surrounding the stock. Nearly 10 times leverage is excessive, even for mREITs. However, Armour's timing in selling these MBS could not have been worse. During July and August, MBS prices were probably at their YTD low point. However, with the tapering postponement, mREITs are once again getting investors attention. Across the board, yields have declined, hence bond prices have risen. In essence, Armour snatched defeat from the jaws of victory, as it most likely sold these securities for much less than they would fetch today.

Conclusion

One only has to look at Armour's performance versus its peers in the mREIT sector to see how much of a laggard it has been. Not only has Armour cut its dividend more frequently than AGNC or NLY, but its share price has declined faster than its peers. Also notice that these stocks have vastly underperformed the broader market as shown by the S&P 500.

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Yes, the whole mREIT sector is currently out of favor. However, Armour has consistently underperformed and underdelivered. When times were good (say most 2012), Armour still lowered its dividend three times. For those seeking total returns, Armour is not a stock I would own.

Disclaimer: The opinions in this article are for informational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned. Please do your own due diligence before making any investment decision.

Disclosure: I am long AGNC. 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. I am also long CYS