It isn't enough to receive a high dividend on a monthly or quarterly basis. An investor wants to know what risks they are taking to generate those yields and the probability that those risks will materialize. In the case of mortgage REITs, there are prepayment risks, interest rate risks, operational risks, and credit risks, to name a few. But there are some mortgage REITs that all but eliminate credit risks or default risks by investing only in securities guaranteed by the U.S. government or U.S. government-sponsored entities.
While the other risks remain, we looked for mortgage REITs that invested only in agency RMBS that carry with them an implied guarantee from the U.S. government, and we came up with the following four REITs with very attractive yields.
1. ARMOUR Residential REIT, Inc. (ARR)
ARMOUR Residential REIT, Inc. invests in hybrid adjustable rate, adjustable rate and fixed rate residential mortgage-backed securities issued by or guaranteed by U.S. government agencies or U.S. government sponsored entities such as:
• Federal National Mortgage Association (Fannie Mae);
• Federal Home Loan Mortgage Corporation, (Freddie Mac); and
• Government National Mortgage Administration, (Ginnie Mae).
Since they only invest in securities guaranteed by the U.S. government agencies or U.S. government-sponsored entities, they practically have zero credit risk. However, as you can see from the summary of peers below, they are the most highly leveraged of the REITs listed here. To read more, go to Is Armour Residential's 16.4% Dividend Yield Sustainable?
2. CYS Investments Inc. (CYS)
CYS is a specialty finance company that was created with the objective of achieving consistent risk-adjusted investment income. They seek to achieve this objective by investing on a leveraged basis in residential mortgage pass-through securities for which the principal and interest payments are guaranteed by the Federal National Mortgage Association, or Fannie Mae, the Federal Home Loan Mortgage Corporation, or Freddie Mac, or the Government National Mortgage Association, or Ginnie Mae, and collateralized by single-family residential mortgage loans. For more information, Cypress Sharpridge Investments: 14% Sustainable Dividend Yield Of This mREIT Loved By Analysts
3. Hatteras Financial Corporation (HTS)
Externally managed by Atlantic Capital Advisors, Hatteras Financial is a mortgage real estate investment trust that invests in mortgage securities guaranteed by U.S. government-sponsored enterprises such as Fannie Mae, Freddie Mac, or Ginnie Mae. Since these investments are assumed to be backed by the U.S. government, Hatteras carries essentially no credit risk.
Like the other REITs mentioned in this article, Hatteras generates its attractive yield by employing leverage. To read more, High Dividend Hatteras Financial Corp. Will Benefit From Fed Policy And Q2 Investments
4. American Capital Agency Corp. (AGNC)
American Capital Agency Corp. is a real estate investment trust. The Company earns income primarily from investing on a leveraged basis in agency mortgage-backed securities. These investments consist of residential mortgage pass-through securities and collateralized mortgage obligations (CMOs) for which the principal and interest payments are guaranteed by government-sponsored entities, such as the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac), or by a United States government agency, such as the Government National Mortgage Association (Ginnie Mae) (collectively, GSEs). It may also invest in agency debenture securities issued by Freddie Mac, Fannie Mae or the Federal Home Loan Bank (FHLB). The company is managed by American Capital AGNC Management, LLC, which is an affiliate of American Capital, Ltd. To read more about AGNC and the sustainability of their dividend, go to American Capital Agency's Dividend Should Be Safe For A While
Disclosure: I am long AGNC.