2023-10-21 03:15:33 ET
Summary
- AGNC Investment Corp offers a high yield of over 16% to investors, making it an attractive opportunity.
- The company's business model focuses on agency-backed mortgage securities and generating income for shareholders.
- AGNC has made improvements in its leverage ratio and debt/capital ratio, putting it in a better financial position.
Investment Rundown
AGNC Investment Corp (AGNC) has become one of the most popular high-yielding companies in the market right now I think. With a yield of over 16% investors are seemingly getting a pretty decent return here.
As the company gives out a large portion of the earnings to shareholders, the TTM payout ratio seems to be around 50% right now, the share price has fallen as a result. This is often the case with high-yielding companies as over time they have to fund expansion through some share dilution and taking on debt when rates are low. This tends to lead to lower share prices as every time the company distributes a dividend, some of the value or cash assets are lost from the balance sheet. In an effort not to sound too pessimistic, I still think that AGNC offers investors a very good opportunity here as the high yield is too good to pass up. Any sudden downside seems limited as the share price is already trading far below the sector's average earnings multiple of 9. I like the business and once interest rates start to decrease once again I think the earnings are going to go up, and so will the share price to some degree. Rating AGNC a buy for now.
Company Segments
AGNC is an internally managed real estate investment trust ((REIT)) that focuses its investments primarily on agency-backed mortgage securities (agency MBS). Although the company was established relatively recently in 2008, its core strategy revolves around single-family residential mortgages and collateralized mortgage obligations. These investments are primarily funded through collateralized borrowings structured as repurchase agreements (repos).
AGNC's primary objective is to offer shareholders a convenient avenue for investing in agency mortgage-backed securities (MBSs), with a focus on delivering long-term value through a combination of dividend distributions and net asset value appreciation. The company operates with a clear and straightforward business model, which involves generating income from its investment portfolio to provide a consistent income source to its shareholders.
One of the key issues that have been circling AGNC the last few months or even years is the higher leverage ratio the company has been having. From the last report, the company was noted to have a 7.2x tangible net book value at risk leverage, which is an improvement from previous quarters when it was closer to 10x instead. When the rates are higher I tend to favor those companies that are efficiently managing and lowering their leverage ratios.
Some improvement that has been made recently is also the lower debt/capital ratio that AGNC has. The 5-year average has been 109%, which now has decreased to 84% instead. I think this has put AGNC in a better position financially and should help them invest aggressively once the rates start to go lower.
Earnings Transcript
On July 25, the last earnings call was held by AGNC and the CEO of the company Peter J. Federico has some good insights on the recent performance and where the market is heading.
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"At current valuation levels, Agency MBS looks extremely attractive on a standalone basis and provide investors a compelling alternative to U.S. Treasuries. At a spread to the 10-year Treasury of about 175 basis points, new production Agency MBS give investors the ability to earn a 5.5% yield on a security that is backed by the explicit support of the U.S. government. This combination of yield and credit quality makes Agency MBS appealing to a wide range of investors on both a levered and unlevered basis".
Even though the markets have been scared because of the hawkish views from the Fed, AGNC continues to see some strong and appealing government-backed securities that are capable of offering a very decent yield for investors right now. Market optimism like this does make me more confident that AGNC will be able to grow its asset base further. I think that as the asset base becomes more valuable for AGNC it will ultimately lead to a higher capital return on their assets, leading to larger chances for maintaining and growing the dividend. My thinking about a rising value in the asset base comes from when eventually rates go down, the real estate market will gain further momentum as more capital is freed up and will be circulating.
Looking At The Dividend
Looking at the history of the dividends seeing it decrease like this is not that positive really. But it has been able to maintain it very well over the last few years at least. I think though as the interest rates hopefully start to decrease sometime in the second half of 2024, AGNC will be able to see the cost of funds further decrease.
If the cost of funds starts to decrease then a raise to the dividend may be possible. Estimates though hold it at the same rate for the following couple of years. Once again though, netting an over 16% yield right now in this market I think is a very good thing as the securities that AGNC also holds are backed by strong support, like the US government. With the p/e incredibly low as well, I think the downside is limited from here on out. P/e is just over 3 on an FWD basis exhibiting a 62% discount to the financials sector. Now, I do think AGNC will trade at a lower multiple because of the company dedicating so much capital towards paying a dividend rather than immense expansion expenditures.
Furthermore, we are not far off from the next earnings report for the company. Estimates are for a slight QoQ decline to the FFO, dipping to $0.62. However, AGNC has a fantastic history of beating estimates and I do think we may end up somewhat close to $0.66 for FFO instead. A higher beat I could see will ignite the share price for the company in the short term.
Risk
The recent increase in Fed fund rates has already led to a significant rise in AGNC's borrowing costs. However, it's crucial to understand that this isn't the only avenue through which higher interest rates could impact AGNC's profitability. The situation becomes even more challenging as Treasury rates continue to hover at elevated levels, with the possibility of further rate hikes on the horizon.
One of the key repercussions of this scenario is the effect on mortgage rates, which have now reached multi-year highs. This trend can have far-reaching consequences for AGNC's business model. As mortgage rates rise, the demand for refinancing and new mortgages may decline, potentially reducing the volume of mortgage-backed securities available for AGNC to invest in. This, in turn, can put downward pressure on the company's earnings and dividend payouts, which are highly dependent on the interest rate environment.
As the Federal Reserve initiated a shift toward monetary tightening, AGNC's cost of funds began to steadily climb. This increase in the cost of borrowing came at a time when economic returns for the company were facing significant challenges. The combination of rising interest rates and potentially lower returns on its investments created a challenging environment for AGNC and its investors.
Final Words
AGNC is a high-yield stock that has seen the cost of funds increasing quite heavily over the last couple of quarters as the US interest rates have been climbing. The dividend is still sitting strong though at over 16% and I think investors are getting a great deal here. I like the direction AGNC is heading and will be rating it a buy as such.
For further details see:
AGNC Investment: Not Passing Up On This Double-Digit Yield