2024-01-04 17:45:56 ET
Summary
- Annaly Capital Management, Inc. PFD SER G, or NLY-G, has the highest probability of delivering negative returns among the three preferred shares discussed.
- NLY-I is the most appealing choice, offering a better deal than NLY-G with higher dividends after the floating rate kicks in and a lower price.
- Investors in NLY-G should consider selling their position and purchasing NLY-I for the lower price today and the superior income when both shares are floating.
A quick article on the Annaly Capital Management, Inc. ( NLY ) preferred shares.
These ratings sum up my views and come with several additional categories of data about the yields:
The worst deal is Annaly Capital Management, Inc. PFD SER G, or NLY-G ( NLY.PR.G ). It isn't inherently a "bad" deal. I'm not forecasting negative returns. However, it has the highest probability among the 3 shares for delivering negative returns over the next 12 years.
Assuming that we just stopped measurement on 1/4/2025, the most likely share in this batch to have negative returns would be NLY-G.
Yet I'm still giving it a neutral rating. Why?
Because a bearish rating would be awful. NLY-G shares should pay out around 9% to 10% in dividends. Will the price decline by 10%? It might, but there's a good chance it doesn't.
If the price declined by 8%, but investors got 9.5% in dividends, the return would be 1.5%.
That would be terrible for a bearish rating. It would dilute the accuracy of my bearish calls. However, that would be less reward than the investor would've earned for sitting on cash. So that would be awful for a bullish rating also.
Congratulations. Assigning a bearish rating requires predicting a big drop. It could happen, particularly with a recession, but the probability isn't high enough to be bearish.
Alternative
Stop focusing on the absolute returns. Start thinking about relative returns.
Annaly Capital Management, Inc. 6.95% PFD SER F ( NLY.PR.F ) and Annaly Capital Management, Inc. 6.75% PFD SER I ( NLY.PR.I ) provide more compelling profiles. However, NLY-I is the clear winner.
With NLY-F, you're exposed to call risk. If the shares get called immediately, you could end up with a negative total return. That's no good. It's probably not going to happen, but it's not absurd, either. So NLY-F isn't a great choice.
If the price dips just a little bit, the call scenario improves and NLY-F becomes more appealing. It would only take a little dip for that to happen.
NLY-I is the one I want to emphasize, though. Shares are $24.41. That is $.44 cheaper than NLY-G.
This is a much better deal.
- While NLY-I is fixed (2 quarters), it will pay out $.84 in dividends.
- NLY-G will probably pay out about $1.22 during that same period.
- That's a difference of about $.37 (rounding errors in the $.84 and $1.22).
Would you spend $.44 today to get back only $.37 in total over 2 quarters?
When Both Float
After 2 quarters, both shares are floating.
NLY-I gets an extra $.20 per share per year (compared to NLY-G) for as long as the shares are outstanding.
More income is inherently better than less income.
These are preferred shares from the same REIT, so credit risk is the same. NLY-G is simply overpriced relative to NLY-I because investors are focusing on the difference in yield today and not looking at cash flow over longer periods.
Stop With Yield to Call
The only reason NLY-G has a higher yield to call than NLY-I is because NLY could legally call NLY-G in the near future. That's extremely unlikely. Basing an investment decision on the fact that the company could theoretically decide to hand you a big gain is simply bad reasoning. Don't do that.
Suggestion
Investors in NLY-G should consider unloading their position for $24.85 and using the proceeds to purchase NLY-I at $24.41. Even if the prices slip a bit for execution, NLY-I still wins easily. If investors can get a spread of $.37 or higher today, they will win on cash flow over the next 6 months.
Thereafter, NLY-I and NLY-F should be priced similarly to each other. They should also be priced above NLY-G. This simply comes down to the difference in the floating spreads.
Have a good weekend and thanks for reading.
For further details see:
Obvious Trade In Annaly Capital Management Preferred Shares