When investors are starting to save for the future, they usually focus on growing their nest eggs. That tends to shift as investors near or enter retirement, when the goal changes to living off the nest egg that has been built, which is why many investors look to dividend-paying stocks like real estate investment trusts (REITs). But all dividend payers are not the same and, sometimes, a high yield is an indication of risk, which is why investors considering mortgage REIT AGNC Investment (AGNC -1.08%) and its huge 15% dividend yield should think twice before hitting the buy button.
What does AGNC Investment do?
At its core, AGNC Investment is a real estate investment trust, a business structure that is specifically designed to pass income on to investors in a tax-advantaged manner. That said, REITs were created with the intent of allowing small investors access to institutional-level properties, like office and apartment buildings. While AGNC Investment is a REIT, it doesn't buy physical properties.
Instead, AGNC Investment buys mortgages that have been pooled together into bond-like securities. This is definitely an institutional-level investment realm, so the basic premise of the REIT structure remains in place. But the mortgage market is very different from buying a building, which most investors can get their heads around pretty easily. Mortgage securities can be impacted by things like interest rates, repayment rates, delinquency rates, and housing market dynamics. AGNC Investment operates in a very complex niche of the REIT world.
To add more complexity to the picture, AGNC Investment, like most mortgage REITs, uses leverage in an effort to enhance shareholder returns. Essentially, it earns the difference between the interest it collects and its operating costs, which includes both management expenses and interest expenses. That said, while leverage can enhance returns it can also enhance losses in bad markets. So the use of leverage adds to the risk profile here, especially given that mortgage securities trade every day (unlike a physical building that will be bought and sold relatively infrequently).
SPY Total Return Level data by YCharts
AGNC Investment is pretty good at what it does
The trouble with analyzing AGNC Investment is that you have to dig into the story and then examine how that fits within your own personal portfolio goals. As the chart above highlights, AGNC Investment's total return has been pretty solid since its initial public offering (IPO) in 2008. While not quite matching the S&P 500 index (^GSPC -1.79%) over its existence it is pretty close. If you were trying to build a portfolio around an asset allocation model that included mortgages, AGNC Investment would be a solid choice.
But what about that 15% dividend yield? That's going to attract dividend investors, not asset allocators. This is where things get harder because the total return graph above assumes that dividends are reinvested. If you are reinvesting dividends you can't use those dividends to pay living expenses. So what does AGNC Investment's performance look like if you spend the huge dividend?
After a quick spike higher in the dividend and stock price, both have been in a steady decline for years. To be fair, the mortgage REIT has paid out more in dividends than it has lost in its stock price, which is why the total return is so impressive. But if you spent the dividend you would now have less capital thanks to the stock price declines and less income thanks to the dividend cuts. That's not something that most dividend investors are likely to be comfortable with.
Not the best option for most investors
There are some investors that will find AGNC Investment's unique return profile attractive. But for investors looking to be set up with a lifetime of income, and preferably a growing income stream, this REIT just is probably going to be a big let down. From the complexity of the mortgage REIT sector to the complexity of figuring out how well AGNC Investment is performing, this high ultra yielder is probably best avoided by most dividend investors.
