American Capital Mortgage Investment: A View From The Perspective Of A Preferred Investor

| About: MTGE Investment (MTGE)

Summary

All newbies should click on the "Basics" link to fully understand my investment philosophy.

When considering preferreds, I view them as a separate entity from their common cousins.

I utilize Quantum Online to thoroughly research each preferred prospectus.

I like to compare the performance of the stock I want to invest in with the S&P and others in its sector.

In conclusion, at this time I would not invest in this company.

For those of you unfamiliar with my preferred Investment philosophy, The Basics Underlying Investments Viewed Through the Eyes Of A Preferred Investor will explain how and why I became a preferred investor. More important, it will provide you the information necessary to fully appreciate and understand the process I utilize to research and determine whether or not I will invest in a particular company's preferred equities. What follows is that process.

When considering the acquisition of American Capital Mortgage (NASDAQ:MTGE) preferred shares, MTGEP, it's necessary that we view that company through a different set of eyes than we would were we interested in acquiring its common shares.

Consequently, unlike its common cousins, it's necessary that we first study the offering prospectus of the preferred shares we are interested in acquiring. To accomplish this, let's visit my favorite preferred search site, Quantum Online, which I set to open to MTGE. Below is a snapshot of a slice of that page:

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A quick review informs us that MTGE, is a REIT that invests in and managed a leveraged portfolio of investments in agency and non-agency mortgage related securities and other mortgage related securities. It is externally managed, which I don't particularly like because I believe it allows for potential financial shenanigans. However, recent news might indicate have purchased their external manager, which I will discuss later in this article.

Let's click on the Find Related Securities to examine any preferreds this company has to offer: Click to enlarge

Here we learn that MTGE offers the preferreds, (MTGEP), which were initially offered at the respective interest rates of 8.125%.

Now let's click on MTGEP itself. Below is the screenshot:

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  • I like that this preferred is cumulative, meaning that in an event that payments are suspended, they accumulate and are owed to the shareholder, and will be repaid in full if and when the payments are restored. And they must be completely repaid before the common shareholder will be allowed to receive any further dividend payments. Additionally, there are probably more sanctions and restrictions placed on the company, and will remain so until the missed payments are repaid in full. As a rule, I only invest in cumulative preferreds. Although bank preferred dividends are usually secure, they are almost always non-cumulative, and consequently, I don't buy them. Here we have a nice example of why I only invest in cumulative preferreds. Notice that NCT suspended payments on all its preferred issues at the height of the 2008 crisis, and restored payments in 2011. Had they not been cumulative, those dividends would have been lost never to be recovered, but since they were cumulative, they were all repaid in full.
  • These shares are callable at the company's option in 5/22/19 at $25.00 plus any accrued interest owed.
  • They pay a dividend of $2.01325 per share per year, or 0.587013 per quarter, paid 1/15, 4/15, 7/15, 10/15 of each year.
  • At the time of their IPO, these shares were unrated by Moody's or S&P, which really doesn't concern me, but might concern a more conservative investor.
  • These shares have no stated maturity, meaning they can remain uncalled in perpetuity, which is fine with me. Pay me, pay my heirs, pay the heirs of my heirs for all I care. However, if called, it will be at their $25.00 call value plus any accrued interest owed.
  • Dividends are NOT eligible for the preferential income tax rate of 15% or 20%. You should be aware of how these tax ramifications will affect your investment bottom line.
  • Under circumstances there are conversion rights, which you can read if it's of interest.
  • As usual, upon liquidation, preferreds rank senior to commons and junior to debt, both secured and unsecured.

However, simply knowing and understanding the preferred issues of a company in no way allows one to gauge a company's long-term health or to fully comprehend its business model. To better accomplish this, a knowledgeable investor should be able to dig down into the numbers, and at least marginally understand a company's financial statements and conference calls.

Sounds reasonable, but extremely difficult for most investors, including myself. I often rely on interpretations by SA contributors who have proven more knowledgeable than myself. Unfortunately, the vast majority of their articles are written with the common shareholder's interests in mind, rather than those of the preferred shareholder - which, on occasion, might not be in alignment. Also, as I mentioned above, other SA members might view their conclusions in a different light. When this occurs, I simply try to figure out which argument sounds the most logical. Sorry, that's the best I have to offer.

Consequently, rather than attempting to digest and understand complicated financial statements, which I realize I won't be able to realistically accomplish with any degree of accuracy, I usually visit two websites to get an abbreviated, yet broad-based view of the particular company I'm considering making an investment in. They are Yahoo Finance and Finviz. I have cued each to open to the financials of MTGE.

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Above is a screenshot of MTGE's 5-year chart, which, as far as I'm concerned, is the picture of a company that has been trending down since January of 2013. The price of its shares over the past year have dropped sharply only to rebound slightly of late. Although it is not displayed on the above chart, MTGE has consistently cut its quarterly dividend since 2013, from 0.90 to its current 0.40. Obviously, the common shareholder since that time has lost a portion of his investment principal, and additionally damaged by the above-mentioned continued dividend cuts.

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Above is a screenshot taken from a Finviz view of MTGE's present financial highlights. The company's current market value is $730.55 million. It lost $95.20 million on sales of $166.50 million. Its stock price over the past year has fallen by 6.92%, and risen by 12.18% year to date and up during this last quarter by 15.40%. I also find its short-term debt/equity is a moderate 4.09, while its long-term debt/equity is 0.00.

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According to the Yahoo chart above, MTGE placed in the middle of its peer group, and underperformed the S&P. In fact, as a sector, these mREIT's have underperformed the S&P dramatically. The peer comparisons charted above are: PennyMac Mortgage Investments (NYSE:PMT), Anworth Mortgage Asset Corp. (NYSE:ANH), Apollo Commercial Real Estate Finance (NYSE:ARI), MFZ Financial (NYSE:MFA) and AG MOrtgage Investment Trust (NYSE:MITT).

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The final chart illustrates the 3-year price movement of the preferred issue MTGEP we are interested in acquiring. This is the chart of a company preferred, which has performed well except for a great buying opportunity at the end of last year that was followed by a price spring-back, followed by and upward trend since the beginning of the year.

Recent news of interest:

American Capital Mortgage Investment Corp. Announces The Signing Of Definitive Documentation Related To The Acquisition Of Its External Manager By American Capital Agency Corp. And Changes To Its Board Of Directors.

BETHESDA, Md., May 23, 2016 /PRNewswire/ -- American Capital Mortgage Investment Corp. ("MTGE" or the "Company") (MTGE) today announced that American Capital Agency Corp. ("AGNC") (AGNC) has entered into a definitive transaction agreement to acquire MTGE's external manager, American Capital MTGE Management, LLC ("MTGE Manager") from American Capital Asset Management, LLC ("ACAM"), a wholly-owned portfolio company of American Capital, Ltd. ("ACAS"). Under the terms of the transaction agreement, AGNC will acquire American Capital Mortgage Management, LLC ("ACMM"), which is the parent company of MTGE Manager. Following the closing of the transaction, MTGE Manager, as an indirect subsidiary of AGNC, will continue to provide investment management services to MTGE on an external basis under the existing fee structure. AGNC intends to retain ACMM's current employee base, including its management, agency and non-agency investment, operations, accounting, and treasury personnel following the transaction.

"The acquisition of our manager by AGNC eliminates any uncertainty associated with the current ACAS strategic review process and provides continuity of personnel and investment philosophy," said Gary Kain, Chief Executive Officer and President of MTGE. "We believe this is a great outcome for our shareholders, as MTGE will maintain its access to our experienced management and investment teams and well-established infrastructure, providing scale benefits not typically associated with a REIT of MTGE's size. Under AGNC's management, we are confident that MTGE can further enhance the value proposition for shareholders and continue to generate attractive risk-adjusted returns through prudent investments, disciplined risk management and accretive capital management actions, including the continuance of our practice of share repurchases."

However I find the transaction labyrinthine an confusing with the outcome placing MTGE virtually in the same position as it was by still being run by an external manager. Only with AGNC as the ultimate manager, they seek to assure their investors that MTGE will, in effect, perform better and value will be added. They also assert that this deal will close in about a year. Personally, I see no way for the investor to determine whether or not MTGE shareholders will actually benefit from this convoluted movement of chess pieces simply because it's been promised. As far as I'm concerned the Financial condition of MTGE as reported in their 10Q 5/6/16 report is that its net book value per common share fell from $19.66 as of 12/31/15 to $19.03 now. A 0.63 loss in value.

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My bottom line decision is to look at charts of the past few years' performance of the company's common shares, coupled with whether or not said company is, over time, prospering or losing market value. Ultimately, I have to decide how safe this company is from an existential standpoint rather than how well its share price will perform over the next quarter or the following year.

Ultimately, I must decide whether or not I believe in the long-term survivability of MTGE, which I view as questionable, especially because of its stock performance, dividend reductions over the past five years, and its continuing book value slide, which is not encouraging. Furthermore, I am concerned about MTGE and the way all the mREIT's will perform when the FOMC continues raising interest rates, as must happen sooner or later. Because I have only invested in mREIT's in this virtually zero interest rate environment, I do not have the experience to really know what to expect, and therefore invite comment and conversation to further explore and intelligently discuss this matter.

My advice is simply that I have no advice to offer concerning MTGE. Personally, I would be loathe to make an investment in this company now or in the near future.

Disclosure: I/we 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.

Additional disclosure: Notice that I utilize the same format to determine whether or not, or how to invest in a particular preferred. I do this for several reasons: The primary reason is because this is the way I accomplish it most effectively. It's also easiest for me to write. But, best of all, it makes it easier for you, my repeat audience, to breeze through each article and painlessly absorb the valuable information, particular to each company, that will help you make your most informed investment decision.