September 22, 2011
Im a small individual investor whos been investing in stocks, and taken command of my own investments and setup an IRA I self manage. Ive been using REITs as a main cornerstone of how I build my retirement account as a much more dynamic way to grow my retirement account than using bonds, and a lot more stable than stock pricing. My favorite REIT to own is Annaly Capital Management (NLY) and its a leveraged REIT that employs about 7:1 leverage to borrow at short term interest rates and uses that cash to buy mortgages up and collect the income off them. With the large leverage, it gives absolutely enormous dividends, and since there arent the large fixed assets, and they can expand and contract the balance sheet as they see fit, it also gives me a very stable share price that trades more like a bond would, but instead gives me a 12-14% dividend, depending on their spreads for the quarter. These kinds of returns on stable positions like this are simply amazing, and Im not too proud to beg if thats whats required, to ensure that their structure doesnt get changed to the point where current responsible portfolio managers have to change their business model to meet new requirements.
On a day like today when the markets free fell 4% but my NLY dropped less than 0.3% this kind of stability is ESSENTIAL to my retirement account.
These kinds of investments are also a much purer form thats much easier for retail investors to understand as well. All they do is borrow money to buy mortgages. Nothing else. All we have to worry about is what the interest rate on the mortgages are, and what rate they can borrow money to buy them. Even with bank stocks, Ive tried buying banks that I thought were primarily just working with mortgages with great lending standards, generally considered good leadership, and I still got crushed trying to invest in them, because I didnt really understand all the little moving parts that make up a fully functional regional bank. Im not even talking about a large bank with trading desks or something like that. Any kind of bank at all and it proved almost impossible for me to understand what drove their earnings and how they handled their money. REITs and especially leveraged REITs for their gorgeous dividends give me a pure elegant solution to that problem and I have no need to learn banking regulations.
Now all this being said, I have to concede that they do act like an investment company. They do take money, buy mortgages, which for all practical purposes you could replace with say, stock in a company that pays a dividend, and then with that borrowed money buy lots and lots of the stock, and then pays all of us investors all the net dividends. However the mortgages that theyre buying are generally very stable in price, and due to how the mortgages are assessed its pretty easy to generalize them and know how to price them, as long as theyre a whole mortgage and not sliced up like the old school subprime CMBS. As a retail investor all I care about is having the clarity to be able to tell what they have on their books, and that theyre not exceeding 10:1 leverage. Why do I say 10 to 1 is my limit? Because I have confidence even if the loans go bad that the properties themselves wont go to zero and the mortgages can be sold off for the value of the property, and that with these amounts of leverage it shouldnt generate losses that exceed the value of my investments, even if we fall back into a horrible housing crash where property values crash and people start defaulting again en mass.
So although Im admitting they do seem to act like an investment company, what do I care about so I can have what I feel is appropriate disclosure so I can tell what Im investing in? I want quarterly reports that show how much leverage there is in the portfolio. I want to know what the book value of the stock is. I want to know what the makeup of the portfolio is to know if we have adjustable rate or fixed rate mortgages. I want to know what the non performing rate is. As long as I can access these things then I feel I can make informed judgements about the quality of my investment.
These kinds of leveraged REITs have been in operation for many years and the best ones have given truly amazing returns, even through the downturn of 08 and 09. Please do not impact the way they conduct business. Please do not change their ability to pass through their positive cash flow untaxed to their investors. If new regulations are appropriate please set the guard rails so that the current structures can still function, but we dont let them get any wilder than they have been and go to crazy Lehman like 50X 1 leverage models that would surely fail with small failure rates wiping out all invested monies and then some. We need to ensure that these investing, and more importantly, RETIREMENT vehicles can still perform the way they need to and give us decades of amazing returns. Simply give us the clarity to see what were investing in and let us worry about the rest.