Annaly Capital Destruction
"Annaly Capital" is a phrase tripping off many lips. So is "Capital Destruction."
What have they to do with each other? Look. We can argue over whether a stock share is the same as an REIT share or different. (They're different.) We can argue over whether an REIT payout is the same as a dividend, or different. (They're different; the REIT is obligated to payout 90% of its income, and the tax treatment for the recipient is different.) But that doesn't matter. You can buy a share of NLY at your favorite brokerage and receive periodic payments after doing so.
But NLY isn't a business. It isn't about making sure gross revenues exceed costs of sales every quarter. NLY is an investment firm - it takes capital, your capital, dear stakeholder; and leverages it up to purchase all kinds of mortgage-backed obligations.
A 16% dividend looks promising. Heck, I wish I had a savings account that paid 16%. But here's the difference: you can withdraw your money from a savings account. If something goes wrong - like the Bernank raises rates, or there's a wave of mortgage defaults, or one of Annaly's big counterparties collapses or restructures in bankruptcy - the dividend goes away very quickly. Maybe only 1% of Annaly's assets would have to go into default for the dividend to go away entirely.
"Well, OK. If that happens, I'll just sell my shares," you say. That's right. Everyone who holds NLY thinks that. That's why the market price of Annaly dropped 19% in 5 minutes last month. Some piece of news spooked the people who hold NLY and have a sell order wired up to Google News with no human intervention, and 19% of the value of the share came off in 5 minutes. At a dividend rate of 16%, that's more than a year of dividends gone. In 5 minutes. This time, the stock price rebounded, because the rumor wasn't true. If we do have a "catastrophe," like Big Ben raising the Fed Funds rate to 0.5% from its current position, the price will not rebound. It'll stay down. And now the dividend is gone. And all the dumb money will be holding non-dividend-paying shares of NLY at a significantly depressed price.
"But wait, I've got a stop-loss order in." You prepared for it to execute at a market price 50% less than where your stop trigger is set? When New Century and NovaStar went belly up in Feb 07, it happened in milliseconds.
"But my stop-limit.." Won't execute.
"But I'm still confident in Annaly because I don't believe there's another financial crisis is going to come down the pike, and if it does I'm prepared to stop receiving the dividend AND lose most of my capital immediately!"
OK, NLY investor. If you got that far - if you can open your mouth and recite the last paragraph verbatim, and really mean it and believe it - then I bless you. You can hold your NLY shares.
The rest of you? You haven't thought it through; and you should sell all your NLY shares while you still can. Props to Dumortier for trying to point this out: