Capstead Mortgage Corp. (CMO)
We believe Capstead Mortgage will be a major beneficiary, as compared to its competitors, in the event of an economic recovery in the U.S. We believe the company has sufficient financial muscle to continue its shareholder distributions; the primary factor that one takes into account before investing in a mortgage REIT. However, if the yield curve flattens any further, investors should see no price appreciation. We believe the stock's dividend yield of 11.7%, along with its cash flow yield of 18%, is sufficiently attractive for yield-hungry investors, which is why we recommend buying Capstead.
Company Description
Capstead Mortgage is a diversified Mortgage REIT and invests in leverage portfolios of real estate-related securities, including government sponsored and guaranteed securities. The Texas-based company invests exclusively in adjustable rate mortgage (ARM) loans, which differentiates it from its peers.
Drivers
The general economic environment and activity in the U.S. housing markets will drive future growth for the company.
- The U.S. economy is showing no signs of improvement, with deterioration witnessed in most indicators, including the U.S. jobs and retail sales data, which are being released by the authorities. The Fed has been busy trying to improve the situation through its maturity extension program and commitment to do more if the situation doesn't improve. As a result of the Fed's efforts, the yield curve, as depicted by the figure below, is flattening. Since most of Capstead's adjustable rate residential mortgage investments are long term in nature, with weighted average maturity of 291 months or 24.25 years, the company will experience a squeeze in the interest rate spread that it earns over what it pays for its short term borrowing. However, since most of the adjustable rate residential mortgages have annual reset dates (77%, 13% and 10% of the adjustable rate residential mortgages have annual, semi-annual and monthly reset periods respectively), the effect of compression in
