2023-07-06 07:35:00 ET
Summary
- Are you worried about a recession? I have just the pick for you.
- Some dividend investments are cyclical, some are countercyclical.
- Annaly Capital Management has a truly professional income investor approach. You must have a portfolio that is agnostic to market changes.
Co-authored with Treading Softly.
It has been famously written that there is a time and a season for everything in life - There's a time to plant and a time to harvest, a time to weep and a time to laugh, a time to kill and a time to heal.
A key differentiating factor is understanding the time or season that you currently live in. However, when you look at the bigger picture of life, even poor timing does not always result in failure. I'm often surprised by how things I thought were poor timing turned out to be the exact timing I needed it to be, and all that I needed was a slightly different perspective or time frame to measure it with.
When it comes to the stock market, invariably, people are going to try and tell you that your timing is terrible. They'll tell you that something you've chosen to do after a week is an absolute failure. After a month, it was a terrible decision. Yet, when you walk down a year or two and look backward, you may be surprised to see that it was a great decision all along, and all those voices crying the opposite were people who are making terrible decisions at that time and trying to convince you that your decision was terrible, not theirs.
An income investor knows what they're investing for and why they're investing and is willing to walk the path even if the voices of others are speaking against them. We're used to having a contrarian viewpoint compared to the market. It's part of the reason that we can capture high yields that others avoid or miss altogether because of their lack of understanding. We have a long-term horizon and are willing to accept some volatility along the way, all so we can score excellent income during the entire timeframe.
Today, I want to look at one particular income investment that so many misunderstand and claim is a terrible investment.
Let's dive in!
A Misunderstood Company
Whenever I talk about Annaly Capital Management, Inc. ( NLY ), yielding ~13%, I inevitably receive a comment along the lines of: "Mortgage REITs can't be held for long periods." The person making this claim will then haul out the 1-year, 3-year, 5-year, and 10-year charts as "proof." But what do these really prove? Nothing.
You see, the nature of all those charts is you are measuring to the same place - where the price is today. If you are measuring to one point in time, you are finding out much more about the price at that point than about average historical performance. If today's price is well below average, all those charts will show relatively poor performance compared to if today's price was well above average. But as investors, when do you want to buy? Do you want to buy when the price is well above average or when prices are well below average?
Another, and I'd argue, a better way to measure average performance is with "rolling returns." Instead of measuring to one point in time, we can measure the average return assuming you held for a specified timeframe. Portfolio Visualizer is a great tool to help us do this. Source .
When you look at rolling returns, NLY has a higher average return than SPDR® S&P 500 ETF Trust (SPY) for 1, 3, 5, 7, 10, and 15 years. What does this mean? It means that investors who buy and hold long-term can expect to outperform the S&P 500 (SP500) by about 2% CAGR. That doesn't sound like a "trading stock" to me.
When we look at the history of NLY's 3-year rolling returns, we can see an interesting dynamic.
See it? NLY's 36-month rolling returns are the highest, while SPY's rolling returns are the lowest. They tend to be the lowest when SPY's rolling returns are the highest.
When you understand NLY's business model, it makes perfect sense why this happens. NLY buys agency mortgage-backed securities, or MBS, on a leveraged basis. These MBS are filled with mortgages that are guaranteed by the agencies Fannie Mae and Freddie Mac. As a result, there is no credit risk to investors, and agency MBS tends to trade in strong correlation with U.S. Treasuries. It is an asset class that does best when common equities are at their weakest. So NLY's strongest historical performance came during the Dot-com bust and the Great Financial Crisis.
For the past decade, the S&P 500 has been strong. That isn't going to last forever. Now, I'm not going to sit here and tell you that I can predict with perfection when the next recession will happen and when the S&P 500 is going to see a real selloff, as opposed to the little bear cub market we saw last year. I threw my dart at "late 2023, early 2024," and I still like that guess, but it is a guess that could easily be wrong.
This is why I've held NLY for the past 4 years - because I don't have the arrogance to believe that I know the future. I don't know precisely when a recession is going to start and precisely when the S&P 500 is going to collapse. However, I can have a lot of confidence that it will happen eventually. You see, when the market collapses, NLY not only sees a rise in price, but it has also seen a surge in dividends. In the midst of a recession, NLY is every bit as important to your portfolio as insurance during a hurricane.
Conclusion
When it comes to the market, no one can predict the future with any degree of certainty. All that analysts can do is take various inputs and use that to help them determine what they believe will happen. Anyone who claims to be able to predict the future accurately and consistently is selling you fool's gold.
What a professional income investor can do is create a portfolio that is agnostic towards the market, just like we have a greater priority to be agnostic towards interest rates. One way to do this is to hold investments that thrive when the rest of the market is suffering. NLY is one such investment that sees its best returns and highest levels of income when the rest of the market is crashing down. If you are worried about an economic recession and a slowdown in the economy, then this is a holding that you must have for income.
As we've seen above, the best returns and the best income occur when the market is at its worst.
What I want for each and every one of you is to progress from a hobby, novice investor to a professional income investor who understands what they're investing for, why they're investing, and has the willpower to be able to hold those investments through thick and thin. This way, you'll have a retirement that is paid for by dividends.
When your investment portfolio pays your way, you've achieved financial security. A high level of comfort is provided by financial security. Stress-free living is a result of comfort.
That's the beauty of my income method. That's the beauty of income investing.
For further details see:
Earn 13% From A Recession, With Enormous Upside: Annaly Capital