2 Ultra-High-Yield Dividend Stocks That 1 Wall Street Analyst Says Are Smart Stocks to Buy Now

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There’s more than one way to beat the market with dividend stocks. Folks with a long time runway before they need to draw down on savings enjoy buying shares of growing businesses that can rapidly raise their dividend payouts.

There’s nothing necessarily wrong with dividend growth stocks, but what if you insist on significant dividend payments at the outset? The first thing to know about eye-catching dividend yields is that they’re usually high because most investors don’t think the underlying business can generate enough cash to meet its commitment.

For those of you who insist on chasing ultra-high-yields, there are a couple of names that one big investment bank thinks are buys right now. Jason Steward, an analyst at Janney Montgomery Scott, recently initiated coverage of AGNC Investment (NASDAQ: AGNC) and Annaly Capital (NYSE: NLY) with buy ratings.

Both companies are real estate investment trusts (REITs) that invest in mortgage-backed securities instead of real estate. At recent prices, AGNC Capital and Annaly Capital offer mind-bending dividend yields of 14.7% and 13%, respectively.

AGNC Investment

As a mortgage REIT, AGNC Investment earns a living in the margin between interest received from its mortgage-backed securities and interest paid to shorter-term debts.

Mortgage spreads, or the difference between 30-year mortgage rates and the 10-year treasury note, have been wider than usual. After noting that mortgage spreads are the primary driver of book value for mortgage REITs, Steward initiated coverage of AGNC Investment with a buy rating.

Steward issued a fair value estimate of about 6% above AGNC Investment’s recent price. Of course, with a 14.7% dividend yield, the stock price doesn’t need to rise to produce market-beating gains for patient investors.

AGNC investors don’t have to worry much about mortgage defaults. About $62.2 billion of its $63.3 billion portfolio is tied up in securities backed by a government agency in the event of a default.

Before investing in AGNC assuming it can maintain its dividend forever, it’s important to realize the business uses the mortgage-backed securities in its portfolio to secure relatively low-interest loans.

Through no fault of the company itself, if the Federal Reserve stops providing demand for mortgage-backed securities, the value of AGNC’s portfolio could fall significantly. This means a collapse in the overall market for mortgage-backed securities could force the company to sell large portions of its portfolio at fire sale prices to satisfy lenders.

Before buying any shares of this stock, you should know that investors who bought AGNC Investment 10 years ago have gained just 36%, and that’s only if they reinvested all their dividends. Most income-seeking investors are better off avoiding this risky stock.

Annaly Capital

Steward also started coverage of Annaly Capital with a buy rating and a $21 fair value estimate. This is a larger mortgage REIT than AGNC Investment. At the end of March, Annaly’s investment portfolio rose to $87.5 billion, $63.5 billion of which is tied up in agency-backed securities.

Annaly Capital’s dividend offers a 13.1% yield at recent prices. This is significantly lower than AGNC Investment because Annaly appears more stable. The perceived stability comes from significant revenue streams beyond its portfolio of agency-guaranteed mortgage securities.

Annaly Capital invests in mortgage servicing rights, which are assets that rise in value when the Federal Reserve raises interest rates. Annaly also has about $2.7 billion of residential mortgage loans directly on its books.

Annaly Capital is arguably more stable than AGNC Investment, but it’s still too risky for most investors. The company has been reporting negative net interest margins, which is unsustainable.

Investors who bought Annaly Capital a decade ago have seen their principal fall by more than half. Those who reinvested their dividends have gained just 40.6% over the past 10 years.

If Annaly can’t quickly turn over its agency-backed portfolio with higher-interest assets, a dividend cut and another decade of unsatisfactory returns could be in store for investors who buy the stock now. Most income-seeking investors want to avoid this risky stock, too.

Should you invest $1,000 in AGNC Investment Corp. right now?

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Cory Renauer has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

2 Ultra-High-Yield Dividend Stocks That 1 Wall Street Analyst Says Are Smart Stocks to Buy Now was originally published by The Motley Fool