Annaly Capital isn't the kind of stock that most investors should own, but there is a small group for which it might be appealing.
Annaly Capital Management (NLY 0.35%) is a real estate investment trust (REIT) that buys mortgage securities. This is a somewhat high-risk niche in the broader REIT sector, but one that often attracts investor attention because of the lofty yields that mortgage REITs usually offer. That's the big story with Annaly, too, since it sports a huge 13%-plus dividend yield today. But despite that ultra-high yield, it probably won't appeal to the passive income investors that might be looking at it. Here's what you need to know before making a buy, sell, or hold decision about Annaly.
Buy Annaly Capital Management
To start out on a positive note, Annaly is a very straightforward way for investors to add mortgage exposure to their portfolios. That's because the REIT buys mortgages that have been pooled together into bond-like securities. It collects the interest from those bonds and passes that on, minus operating costs, to investors via dividends. In this way, it's kind of like a mutual fund that focuses on mortgages.
Image source: Getty Images.
So the buy question here really requires another question to be asked: Who would want to specifically have mortgage exposure in their portfolio? The answer is investors who follow a fairly complex asset allocation model (which should obviously include mortgages as an asset class). That's not likely to be a small income investor. In fact, the most common asset allocators are large investors like pension funds, family offices, and endowments.
These investors also tend to put more weight on total return versus dividend yield (more on the dividend below). And on that front, Annaly hasn't done too bad, a fact the company proudly highlights on its website, noting that the stock's total return has beat the S&P 500 index since its inception in 1997. The chart below proves that out, though the outperformance over that time is fairly small.
NLY Total Return Level data by YCharts
Hold Annaly Capital Management
So if you own Annaly Capital for the total return opportunity presented by a mortgage-related investment, then there's really no reason to sell the stock. The company is doing what it is supposed to do.
That said, you'll have to have a strong stomach to stick around because mortgage REITs are pretty complex. They tend to use leverage, often with the portfolio of mortgage securities acting as collateral. That increases risk. Meanwhile, mortgage securities can be impacted by interest rate changes, housing market dynamics, and mortgage repayment trends, among other things. There is a lot to keep track of if you want to stay on top of this business. Small investors probably won't want to -- and may not even have the resources -- to do that, which is one reason why Annaly is probably best left to institutional investors.
Sell Annaly Capital Management
The one aspect of this stock that we haven't discussed yet is probably the single most important thing about it for individual investors: the dividend. The yield is a huge 13%-plus right now. But don't think that makes this a dividend stock. As the chart below highlights, the dividend has been trending lower for over 10 years, and the stock has followed along for the ride.
If you spent the dividend income you collected instead of reinvesting it, you would have been left with less income and less capital. That's not the outcome any passive income investor would want. But notice the blue line on the chart above (the dividend yield): It has consistently been in the double digits. That's a function of the math behind dividend yields, but it shows that Annaly has always looked like an attractive dividend stock even though it has pretty reliably not been an attractive dividend stock.
Simply put, if you are looking to create a consistent passive income stream, Annaly is not the stock for you. But again, it really isn't designed to be that kind of stock.
Don't get suckered in by the yield
It is easy to get so enamored with a huge dividend yield that you overlook obvious risk. It happens to everyone. When it comes to Annaly Capital, however, the warning signs are very clear. This high-yield stock isn't really designed to be a dividend stock. It is intended to provide total return to a specific type of investor. Unless you are that type of investor, you should probably avoid it.
Reuben Gregg Brewer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
