AGNC Investment has a very high dividend yield, but that alone isn’t enough of a reason to buy the stock. Here’s why:
If there’s one thing that will grab the attention of dividend investors, it’s the double-digit percentage yield. This is probably one of the biggest reasons investors are paying attention to AGNC Investment (AGNC -0.10%), considering its current yield of 14.5%.
To put this into some perspective, the S&P 500 index (^GSPC -0.03%) yields only about 1.2%. But before your judgment is clouded by dreams of becoming a millionaire with AGNC’s dividends, you’ll want to take a look at what’s behind those dividends.
What does AGNC Investment do?
AGNC Investment’s core is a real estate investment trust (REIT). This is a pretty good start on the dividend front, as REITs are designed to return profits to shareholders in the form of dividends. To maintain REIT status, a company must distribute at least 90% of its taxable profits as dividends, which allows a company to avoid corporate-level taxation.
However, AGNC is more than just a standard REIT that buys real estate and rents it out for income. It’s a mortgage REIT, which means it buys mortgages pooled into securities like bonds. The company uses capital, and often borrowed funds, to purchase these mortgage-backed securities and earns the difference between its costs (including, among other things, interest expense) and the interest it earns on the mortgage-backed securities it purchases.
In many ways, it is similar to a mutual fund. The value of a mortgage securities portfolio is effectively the value of a company.
The mortgage market is complex. Changes in interest rates, the housing market, mortgage repayment rates and even the year in which the mortgage securities were created can affect AGNC’s financial performance.
For most investors, it will be very difficult to fully track what the company is doing within their portfolio. This will be a pre-emptive attack on REITs. If you want to buy because of the dividend yield above 14%, you should take the time to understand and keep up with trends in the mortgage market.
These AGNC investment graphs are a big problem
But what about that high dividend yield? If you look back at the company’s history, you’ll see that the yield has always been very high.
In fact, the percentage is usually over 10%. Going back to the company’s initial public offering, the current yield is moderate. At first glance, this suggests that AGNC Investment may currently be reasonably valued, using yield as a rough measure of valuation.
AGNC Dividend Yield, data by YCharts.
This view may change if we consider actual dividend payments over time. As the chart below shows, stock prices have been volatile and even declining over the past decade. The story is very different, as investors who bought stocks thinking they had secured a large source of income actually ended up with a smaller source of income.
AGNC Dividends per Share (Quarterly), data by YCharts.
The dividend yield graph and the dividend graph may seem contradictory, but they are not. That’s because yield is a very simple mathematical equation (annual dividend divided by stock price equals dividend yield). If the stock price is falling as dividend payments are made, it is easy for the yield to remain high even though the dividend is decreasing. That’s exactly what the following chart shows, placing all three metrics on the same chart.
AGNC data by YCharts.
What you can see from the chart above is that dividend investors who bought AGNC because they thought it would make them a millionaire because of its huge yield would end up with less income and less capital. If the dividends had been used for living expenses, the company would have ended up with less capital and less income. This is an important statement because the story is a little different with dividend reinvestment.
AGNC data by YCharts.
Over the long term, REIT returns based on dividend reinvestment will be fairly close to the S&P 500’s total return, even if the performance of the stock alone is dismal. This is because the dividends are so high that they more than compensate for the decline in stock prices. That’s why this is such a complex investment.
AGNC Investment is not for dividend investors
Despite its high yield and being a REIT, this isn’t really an income stock. This is a total return investment, and dividends must be reinvested to make full use of them.
Unfortunately, there is no free lunch on Wall Street. If you plan to use the dividend income, AGNC is not the kind of stock you want, given its dividend history. However, if you are looking for mortgage exposure, it could be part of a millionaire-making portfolio, as you follow an asset allocation investment plan and plan to reinvest your dividends.
In summary, AGNC Investment is not a bad company, just not for income investors.
