The Hoff took the week off to gloat (you’ll see why tomorrow) so you’re stuck with me and my stock pick today. Don’t worry, I have a great one for you.
What’s the best thing about investing in a real estate during one of the most unpredictable real estate markets in the history of America? More risk means more rewards; ginormous rewards even . And in case you were wondering, “ginormous” has been an official word since 2007.
So how do you invest in real estate if you don’t have hundred of thousands of dollars to buy property? It’s easy, just buy a Real Estate Investment Trust, or REIT. This is truly one of the simplest investments to understand. A REIT buys property, and when it makes money on that property, it is required to pay out at least 90% of that income to shareholders in the form of a dividend.
Very simply, the more money the REIT makes, the more shareholders will earn in a dividend.
Picking the Right REIT
So, now you understand REITs and you’re ready to get involved in real estate investing. How do you pick the right one?
The safest way to go would be investing in a REIT ETF. This will give you exposure to a bunch of different REITs and minimize your risk. However, it also reduces your potential earnings. The Vanguard REIT ETF (VNQ) is the largest REIT ETF by market cap, but they only pay a 3.3% dividend yield. If I want a 3% dividend yield, I’ll invest in Walmart or Proctor and Gamble; not a risky real estate investment.
American Capital Agency Corp
I prefer American Capital Agency Corp. (AGNC). Why? Because they pay a 19.30% yield.
You probably have some of the same questions I had when I found this stock.
- Is this massive dividend sustainable, or will the dividends decrease as soon as I buy in? (They have paid at least a $1.40 dividend in each of the last eight quarters)
- What kind of real estate are they investing in? (Residential mortgages, mostly Fannie Mae and Freddie Mac properties)
- How do I know they won’t go out of business tomorrow? (As with any company, you don’t)
The fact is, the only way any company can pay such a massive dividend is if they are taking a large risk. I can’t think of a much bigger risk than investing in Fannie Mae and Freddie Mac properties that absolutely nobody wants. However, it has been paying off for AGNC (and their investors) for almost three years now.
If you can handle the risk and want to add a huge dividend to your stock returns, AGNC might be the right investment for you.
Disclosure:
I have a long position in AGNC
Important to note that ALL ideas, thoughts, and/or forecasts expressed or implied herein are for informational and entertainment purposes only and should NOT be construed as a recommendation to invest, trade, or speculate in the markets.
Kevin McKee is an entrepreneur, IT guru, and personal finance leader. In addition to his writing, Kevin is the head of IT at Buildingstars, Co-Founder of Padmission, and organizer of Laravel STL. He is also the creator of www.contributetoopensource.com. When he’s not working, Kevin enjoys podcasting about movies and spending time with his wife and four children.
Sadly, I lost a huge chunk of my portfolio during the “Fall of 2008”, but would love to get back into trading again. And I would love the 20% interest that is definitely available out there.
Wow this is one crazy looking stock. I would say that, while, “How do I know they won’t go out of business tomorrow? (As with any company, you don’t)” is true, I would wager quite a bit more that Google will exist 3 years from now that these guys will. And I believe this is much riskier than many stocks – but it does have quite a nice reward. They seem to be leveraging their investments in mortgages (though I only looked quickly and I am not quite sure if they are taking added leverage risk or this is just the natural result (my initial guess is they are adding to their returns by adding substantial leveraging to their portfolio). Leverage is extremely rewarding and also often very risky. But I am not apposed to putting some money in risky stocks – they can balance out a portfolio as long as the percentage in such risky stocks in low.
Don’t REITs have some funky tax requirement that they have to pay out 90% of rent? Is there a way to research their rent? and cash flow?
I am a REIT fan as well. A 20% yield would mean either AGNC is going to seriously grow earnings or they have a lot of cash in the coffers!
20% is nothing to sneeze at. Going strong for three years, but can they keep this up? Will check it out, but the risk maybe outweigh the reward.
Be careful!
There’s more to the story than owning high yield mortgage-backed securities. AGNC is a leveraged REIT with a lot of yield curve exposure.
This REIT showed up on my screener run not too long ago, and it only took a minute or two of 10-K digging to find out what they were doing. AGNC is borrowing in the short-term with very low interest rates and lending in the long-term at much higher interest rates.
While that strategy does produce serious cash flow right now, any rate hikes will cut significantly into their bottom line profits going forward. You mention that it has been paying a serious dividend for three years–three years ago rates plummeted and this REIT started borrowing heavy and buying long.
You could do the same thing yourself right now. You could go to the bank, borrow $90,000 at 2-3% per year with a line of credit, put up $10,000 and buy $100k of long bonds at 5-6%. You would then net 3% per year on $100k, or $3,000 on your original $10k investment for a cash on cash return of 30% per year.
However, when your cost of borrowing rises, your earnings go into a death spiral. What if your LoC goes to 4% per year? Your cash on cash return is halved. If it goes to 6% per year, you have zero earnings. If it goes to 7%, then your cash on cash return falls to -10 to -20% per year.