Are mREITs A Good Way To Diversify Any Portfolio?

 |  Includes: AGNC, CIM, GE, NLY, T
by: Matt Schilling

After writing a recent article on several mREITs I noticed something interesting in the comment string that will serve not only as the basis for this article, but a good starting point for those planning to diversify their portfolio through mREITs. The user's comment was as follows "I am an amateur 88 year old investor living on south coast of Oregon. I lost most of my retirement nest egg trying to supplement social security income via the stock market. For past year, I have primarily invested in the REITs mentioned above and I'm now experiencing a loss in my position with the main stock currently in focus". Based on his comments I wanted to examine the 5-year performance of three of the REITs mentioned in yesterday's article.

Are mREITs a good way to diversify any portfolio?

Yes and No. mREITs are Real Estate Investment Trusts (REITs) that consist primarily of mortgage backed securities (hence the 'm'), most of which have a portfolio of a high-interest rate loans and collateralized debt obligations. For the high-yield income driven investor mREITs such as Chimera Investment Corp. (CIM) which yields 16.70% ($0.36), American Capital Agency Corp. (AGNC) which yields 14.40% ($5.00) and Annaly Capital Management, Inc. (NLY) which yields 12.80% ($2.20) are good starting points, although most investors should note these stocks rely heavily on the US economic conditions such as prices in the housing market and the behavior of mortgage yields. Because the performance of these stocks is heavily dependent on the behavior of the housing and mortgage markets a certain level of caution should be applied when using mREIT stocks as a diversification tool. With that said I wanted to examine their performance from 1/1/2008 up until 7/31/2012.

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The performance breakdown of these three mREITs when compared to the S&P 500 demonstrates three very diverse patterns. AGNC has outperformed the S&P 500 by an average of 23.93% in the 3 of the last 5 years including the first 7 months of 2012. NLY managed to outperform the S&P 500 only twice during the last 5 years, when in 2008 the company beat the S&P 500 by 40.63%, and thus far in 2012 as it has outpaced the S&P 500 by 0.45%. The worst performer of the group has been CIM, which hasn't managed to outpace the S&P 500 since 2008, even though the company has demonstrated positive returns in 4 out of the last 5 years. Based on my calculations, the best performing mREIT of the three over the last 5 years is clearly AGNC and as an added bonus the company also yields 14.40% ($5.00).

Final Analysis

Using mREITs as a way to diversify any portfolio can be a good strategy from an income standpoint, and in some cases even a growth standpoint. Should retirees use mREITs as a source of income? Yes they should, although all three mREITs mentioned have reduced their dividend at least once over the last six quarters. mREITs have the ability to generate significant income, even though they shouldn't be the only source of an investors income and investors shouldn't use one mREIT to offset the performance of another mREIT given the economic uncertainty our country still faces. The housing and mortgage markets haven't fully recovered and as a result mREITs should be strategically offset with such blue-chips as AT&T (T) which is up 23.32% year to date and yields 4.70% ($1.76) or General Electric (GE) which is up 15.33% year to date and currently yields 3.20% ($0.68).

Disclosure: I am long AGNC, NLY, CIM, T, GE.