Warning: This High-Yield Stock’s Dividend Could Be at Risk

The last time I looked at American Capital Agency Corp. (Nasdaq: AGNC), I said that I wouldn’t be shocked if the company cut its dividend.

After all, it had reduced its dividend five times in five years. So no one should be surprised that the company slashed the dividend again in May, decreasing the monthly dividend to $0.20 per share from $0.22.

[ad#Google Adsense 336×280-IA]Even with the lower dividend, the mortgage REIT yields a very attractive 12.6%.

But has the company dropped the dividend enough that it is now safe or is another cut lurking around the corner?

The company reported second quarter results [on Tuesday].

American Capital Agency reported that its net spread and dollar roll income per share was $0.60.

Mortgage REITs typically earn money by borrowing short term and lending long term. That is called “the spread.” They also may sell a mortgage and buy it back later, using the funds for other investments and hopefully buying the mortgage back at a lower price. That is called “the dollar roll.”

So the net spread and dollar roll was $0.60 per share, which is equal to the current dividend of $0.20 per month, or $0.60 per quarter.

There’s not much room for a difficult quarter or two if the company wants to continue paying $0.20 per month or $0.60 per quarter. In fact, that $0.60 net spread and dollar roll figure is below the $0.70 of the first quarter and $0.92 of the fourth quarter 2014. Additionally, its book value per share fell 6%. All of that makes me nervous, particularly because the company has a history of dividend cuts.

What’s most important for mortgage REITs is the yield curve – the difference between short- and long-term rates. If the difference widens, companies typically make more money. If it narrows, they make less.

That’s one aspect I don’t like about mortgage REITs: a vital characteristic of their business is completely out of their control.

While interest rates certainly impact many businesses, it’s not usually one of their most important factors.

It is with mortgage REITs, and there is little that management can do about it other than to hedge their bets.

Now, many people believe that the juicy yields of mortgage REITs are worth the risk. And they very well might be. But with a history of regular dividend cuts and the company paying out all of its income in the form of dividends, it’s hard to come to any conclusion other than that the dividend is at risk.

As a result, I’m downgrading the dividend safety rating.

Dividend Safety Rating: D

— Marc Lichtenfeld


Source: Wealthy Retirement