Annaly Capital: More Pain Will Come After It Announces Another Dividend Cut

Nov. 7.13 | About: Annaly Capital (NLY)

I suppose that it wouldn't be a normal day if I did not at least chime in on the poor earnings report that was announced by Annaly Capital (NYSE:NLY). I think it should become clear that as the company continues to battle the headwinds it currently faces, both the share price and the dividends paid will drop.

This is not a reflection on the company or the management. As the kids say; "it is what it is". Far too many really great investors who are neck deep in knowledge about the inner financial workings of these companies simply fail to see the reality of a pure market fact: When shareholders sell, the price drops, when the price drops more shareholders sell, and if the headwinds being faced by the sector are still on the table, then its earnings will be impacted and dividend cuts will happen.

When dividend cuts happen, the shareholders will slowly wake up to the fact that when they are getting paid 11, 12 , 13% to lose 25 or 35% of the total value of their investment, they too will finally sell shares. Yes it is also true that some investors will see this as a buying opportunity, sighting the price to book value. These investors might have plenty of money to keep averaging down I suppose, but they are simply hoping that things will change, and they truly believe they are buying a bargain.

I get it. I know how the markets work, and for every seller there is a buyer. Honestly folks, after you read the earnings report of Annaly from last night, do you still have the warm and fuzzies?

The Facts Do Not Lie

Per the Seeking Alpha Market Current from yesterday:

  • Core EPS of $0.28 compares to $0.29 in Q2 and $0.30 a year ago.
  • Book value per share of $12.70 slips from $13.03 at end of Q2, and compares to today's close of $11.58, which puts the stock at a 8.8% discount to book. Dividend was $0.35 per share.
  • Interest rate spread of 1.01% is up 3 basis points from Q2, with lower prepayment speeds (CPR of 13% vs. 16%) helping to boost.
  • Commercial investment portfolio grows 28% and now represents 11% of capital vs. 8% in Q2. Total portfolio shrinks to $83.1B from $95.9B.

I guess the positive takeaway here is that the commercial portfolio has grown as the total portfolio has decreased. Also, per the earnings report, Annaly had a much lower level of leverage than most of its main competitors, at 5.4-1 (American Capital (NASDAQ:AGNC) was over 7.2-1).

When one reviews the earnings report (noted above) the key takeaways from NLY's perspective are laid out in the beginning of the report:

  • GAAP net income of $192.5 million, $0.18 earnings per common share.
  • Core earnings of $282.3 million, $0.28 earnings per common share
  • Strong capital position with capital ratio of 13.9%, net capital ratio of 14.8% and leverage of 5.4:1
  • Commercial investment portfolio up 28%, now representing 11% of stockholders equity
  • Book value of $12.70

The actual chart of the stock, and how it has reacted in the face of continued weakness, is in my opinion more important than any immediate numbers in an earnings report.

NLY Dividend Chart
(Click to enlarge)

It seems pretty clear to me that if the current trends stay the same, the share price will keep dropping as the dividends keep getting cut, and the price to book, while have a 15% discount appears like a bargain, has not done anything to help shareholders.

I have always stated that I am not any sort of finance wizard or mREIT expert, but I do know the way markets work. If shareholders sell, the price drops. If dividends are cut, more shareholders will sell and the share price will drop even more.

At some point the law of diminishing returns will work in reverse, and the stock WILL become a bargain. With all of the headwinds this sector faces, that point might not be reached until the Fed finally gets out of the way completely.

When that occurs is anyone's guess but MY guess is that this stock will drop below its current 52 week low point of $10.63/share. Any price below $10.50 and I MIGHT take a small long position at that point.

The Bottom Line

Investors can toss all of the numbers they want at me, the fact remains that this stock is going lower for now. That being said, I like Annaly better than American.

Be careful folks, the coast is NOT clear.

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.