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My High Dividend Stocks
This is my high dividend stocks site where I help site members find high dividend stocks with earning power and strong balance sheets.

Most FED officials prefer raising interest rates prior to selling their MBS. How would this affect AGNC?

Of course most Federal Reserve officials would prefer to raise interest rates rather than sell toxic mortgage backed securities.  Nobody in their right mind would pay full face value for those toxic MBS.  The Fed knows this and it is already suffering a public relations crisis.  It doesn’t want the public to know how ineffectual their actions have been since late 2008.

They will also find that raising the Fed Funds Rate will be pushing on a string.  The commercial bankers have over $1.3 trillion in excess reserves in their digital vaults.  They are not loaning money to each other overnight at the Fed Funds Rate to meet reserve requirements (duh! Because they have $1.3 trillion in excess RESERVES.)  The Federal Reserve could raise this rate to 20% and nothing would happen.  Actually something would happen.  People would notice that the Fed is not in control of all interest rates like they were taught.

If the Federal Reserve does sell toxic MBS into the market, then that is very bad for high dividend stocks like American Capital Agency Corp. (AGNC) and other mortgage REITs.  There would be an increased supply of MBS for sale and no new demand at the old prices.  Prices of MBS would go down.  The asset value of AGNC’s MBS portfolio would go down.  If the Fed flooded the market with enough MBS, then it is even possible that AGNC would have to sell some agency MBS to satisfy margin calls for its repurchase agreements.  Leverage is a two way street.

The interest rates that the Fed doesn’t control are going to rise and that will hurt AGNC’s net income derived from the spread of various interest rates.  AGNC will lose money if interest rate yield curves invert (that would be a signal of a double dip recession).  Enjoy the high dividend yields while they last because lower future asset values and rising interest rates are going to torpedo AGNC’s investment prospects.

Disclosure: I don’t own AGNC and I don’t plan on owning it ever.

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(Reuters) - Most Federal Reserve officials prefer to raise benchmark interest rates before selling assets when the time comes to tighten policy, minutes of their April meeting showed on Wednesday.

During an extensive discussion of how the central bank might pull back its massive support for the world's largest economy, officials agreed they would eventual shrink the Fed's much expanded portfolio over the medium term, and that getting rid of mortgage-related debt would be a priority.

"A majority of participants preferred that sales of agency securities come after the first increase in the (Fed's) target for short-term interest rates," the Fed said.

"And many of those participants also expressed a preference that the sales proceed relatively gradually, returning (Fed holdings) to all Treasury securities over perhaps five years," the minutes said.

Discussion of the removal of monetary stimulus should not be seen as an indication the Fed is ready to start down that road any time soon, policy makers said.

(Reporting by Mark Felsenthal; Editing by Neil Stempleman)

AGNC hires two investment executives from the failed Freddie Mac and Bear Stearns.

The executives at American Capital Agency Corp. know that interest rates are going to skyrocket in the not so distant future.  So they have hired some ex-Freddie Mac executives to help them game the system until it can no longer be gamed.  There is nothing wrong with that.  Caveat emptor "buyer beware".  I would not be proud to hire people at the failed Freddie Mac or Bear, Stearns & Co.  I wish them success, but I know that AGNC and its high dividend stock buddies in the mortgage REIT sector are a house of leveraged cards that will crumble at the beginnings of an inverted interest rate curve.
 
Why not hire some guys from Enron's risk management department?  How could they do any worse than Freddie Mac and Bear Stearns.  Hiring collosal risk management failures is just plain stupid.  I would avoid AGNC just for their hiring practices.
 
Here are the links to the wikipedia entries for Freddie Mac and Bear Stearns if you can stomach the financial insanity of these dead corporations:
 
 
BETHESDA, Md., May 16, 2011 /PRNewswire/ -- American Capital Agency Management, LLC, the external manager of American Capital Agency Corp. (Nasdaq: AGNC), announced today that Peter J. Federico and M. Song Jo are joining the company.
 
Mr. Federico will join as Senior Vice President and Chief Risk Officer and will be responsible for overseeing all risk management activities relating to AGNC.  Mr. Federico was previously Executive Vice President and Treasurer of Freddie Mac, primarily responsible for managing that company's investment activities for its retained portfolio and developing, implementing and managing risk mitigation strategies.  He was also responsible for managing Freddie Mac's $1.2 trillion interest rate derivative portfolio and short and long-term debt issuance programs.  Mr. Federico previously served in several other capacities at Freddie Mac, including Senior Vice President, Asset & Liability Management.  Mr. Federico joined Freddie Mac in 1988.
 
Mr. Jo joined American Capital Agency Management as Vice President, Mortgage Structuring.  He previously served as Vice President, Mortgage Structuring, Investment & Capital Markets at Freddie Mac, where he was primarily responsible for managing mortgage structuring activities, including creating, managing and trading structured activities to enhance that entity's risk, return and liquidity profile.  Mr. Jo served Freddie Mac in various other capacities from 1997 to 2010.  He previously worked at Alex. Brown & Sons and Bear, Stearns & Co. Inc.
 
"We are excited about expanding our investment team with seasoned professionals," commented Gary Kain, President, American Capital Agency Management, LLC.  "Peter and Song both have extensive experience in investing, trading and managing risk associated with mortgage-backed securities.  Prior to joining us, Peter spent most of his 20 year career involved in the management of one of the largest interest rate derivative portfolios in the world.  We believe that his extensive experience in asset/liability management will further our efforts to generate attractive risk adjusted returns for American Capital Agency Corp. over a wide range of economic environments and interest rate scenarios," he added.
 
"In addition, Song's experience analyzing and executing Agency REMIC transactions at Freddie Mac will significantly enhance our ability to use mortgage structuring to supplement American Capital Agency Corp.'s returns and develop alternative funding strategies," Mr. Kain continued.  "We continue to build the strongest possible investment team with the necessary skills and industry experience to help us enable American Capital Agency Corp. to capitalize on the wealth of opportunities within the agency mortgage market, while appropriately managing risk."
 
 
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Large bank debt is frequently a sign of weakness. Safe Bulkers (SB) vs. AGNC.

Large bank debt due shortly is frequently a sign of weakness.  I’m comparing two of the stocks that I’ve been analyzing the most: Safe Bulkers (SB) and American Capital Agency Corp. (AGNC).  Both are high dividend stocks.  SB yields about 7.4% and AGNC yields a whopping 19%.  See how each of them deals with their short term debts.

Safe Bulkers (SB) looks like it is financially sound.  Safe Bulkers (SB) has $28.6 million in short term debt as of Q1 2011.  Short term debts were $8.2 million in 2006.  It has $53.2 million in total current liabilities.    Total current liabilities were $172 million in 2006.  Short term debt is on a slight uptrend, but total current liabilities are in a five year downtrend.  Safe Bulkers has an annual net income of about $109 million.  It can pay down the debts it owns with the money the business earns and continue to pay its high dividend (even in the beaten down dry-bulk shipping market; shipping rates have plummeted since 2008).  The same can’t be said of AGNC.

American Capital Agency Corp. (AGNC) is not financially sound because it is leveraged 7-9 times and like a bank it is borrowed short (through repurchase agreements due in 30-180 days) and lent long (agency securities).  AGNC has $21.9 billion in short term debt according to the company’s latest quarterly report.  The company’s total current liabilities is virtually the same as its short term debts.  AGNC has an annual net income of about $288 million.

You can see the huge difference between AGNC’s short term debt and net income due to their leverage.  I expect the company’s net income to decrease in the next year or so due to rising short term interest rates.

The point is that AGNC does not payback its short term debts with the money it earns.  Its dividend payment is also in jeopardy.  It issues more stock to raise capital and it rolls over its debts.  The music stops when the financial institutions refuse to rollover its short term debts (credit crisis) or they charge higher rates for short term borrowings (rising interest rates).

I will not invest in banks, mortgage REITs, and insurance companies for this reason.  They are too opaque and difficult to understand their asset values.  The details of the business operations are also difficult to understand.  Don’t be charmed by their siren’s song of a whopping dividend yield or you may find a portion of your dividend portfolio smashed upon the rocks when the interest rate yield curve inverts.

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Large Bank Debt Frequently a Sign of Weakness. Financial difficulties are almost always heralded by the presence of bank loans or of other debt due in a short time. In other words, it is rare for a weak financial position to be created solely by ordinary trade accounts payable. This does not mean that bank debt is a bad sign in itself; the use of a reasonable amount of bank credit —particularly for seasonal needs—is not only legitimate but even desirable. But, whenever the statement shows Notes or Bills Payable, the analyst will subject the financial picture to a somewhat closer scrutiny than in cases where there is a “clean” balance sheet.

The postwar boom in 1919 was marked by an enormous expansion of industrial inventories carried at high prices and financed largely by bank loans. The 1920–1921 collapse of commodity prices made these industrial bank loans a major problem. But the depression of the 1930’s had different characteristics. Industrial borrowings in 1929 had been remarkably small, due first to the absence of commodity or inventory speculation and secondly to the huge sales of stock to provide additional working capital. (Naturally there were exceptions, such as, notably, Anaconda Copper Mining Company which owed $35,000,000 to banks at the end of 1929, increased to $70,500,000 three years later.) The large bank borrowings were shown more frequently by the railroads and public utilities. These were contracted to pay for property additions or to meet maturing debt or—in the case of some railways—to carry unearned fixed charges. The expectation in all these cases was that the bank loans would be refunded by permanent financing; but in many instances such refinancing proved impossible, and receivership resulted. The collapse of the Insull system of public-utility holding companies was precipitated in this way.

Wunderlich Securities analysts have no clue on economics and AGNC.

I have one question for the unnamed Wunderlich Securities analyst(s).  Do you think that short term interest rates will rise faster than longer term interest rates in the next one or two years?  Their answer has to be no.  Otherwise, they wouldn’t have said what they said in the article below.

The research firm expects “market trends could support higher debt to equity ratios going forward because collateral is relatively dear in the marketplace.” While not every Index member is a dividend payer, the Index does sport a yield of 10%.

Wunderlich notes wider spreads and adequate liquidity will support returns on equity of over 17% on average this year and could provide support with the potential for multiple expansion.

Interest rates will rise from these artificially low rates manufactured from Federal Reserve digital money creation.  I have posted about this here: http://bit.ly/RatesRise .  Interest rate spreads will tighten when the Federal Reserve’s quantitative easing (QE2) ends in June.  If the Fed stop printing money for a year like they did for most of 2010, then the recession will continue.  Short term interest rates will rise faster than long term rates.  This is the precursor to an inverted yield curve.  The inverted yield curve has preceded almost every recession since the end of World War II.

If the Federal Reserve starts printing money again (QE3) before the onset of another recession, then perhaps the interest rate spreads won’t tighten as quickly.  But the Fed will be sowing the seeds of a bigger calamity later.  American Capital Agency Corp. (AGNC) and the other mortgage REITs are going to have to slash dividends and their stock prices will take huge losses because their asset values will erode.

Ask yourself this question: Did Wunderlich Securities warn their clients that a financial crisis was eminent in 2007?  I can’t find any warnings using the search terms “Wunderlich Securities” + “financial crisis”.  I do know that Peter Schiff, EuroPacific Captial, is an advocate of the Austrian school of economics.  He is on the list of those who warned of the financial crisis: http://marketplayground.com/2010/11/20/twelve-who-forecast-the-financial-crisis/   No one from Wunderlich saw the crisis coming.  Why should you trust them now on mortgage REIT dividend stability?

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Wunderlich Sees Stability In Mortgage REIT Dividends (NLY, AGNC, NRF, CIM, CLNY)

by Jason Smith | May 2nd  |  Filed in: Stock Sector News

The Mortgage Investment Stocks Index is up 0.1% after Wunderlich Securities said metrics reported by the firms in this group that have reported first-quarter earnings speak to the stability of dividends currently in place. Wunderlich notes fewer than half the mortgage REITs under coverage have delivered first-quarter results, but company reports and current market trends indicate stable payouts for investors.

The research firm expects “market trends could support higher debt to equity ratios going forward because collateral is relatively dear in the marketplace.” While not every Index member is a dividend payer, the Index does sport a yield of 10%.

Wunderlich notes wider spreads and adequate liquidity will support returns on equity of over 17% on average this year and could provide support with the potential for multiple expansion.

Shares of Annaly Capital Management (NLY), the largest Index member by market value are fractionally lower today. Annaly has a yield of 13.9%, based on past distributions. With a yield of 19.2%, based on past distributions, American Capital Agency (AGNC) is modestly higher while Northstar Realty Finance (NRF) with a yield of 7.9%, based on past distributions, is soaring 3%. Chimera Investment (CIM) and Colony Financial (CLNY) are both lower by half a percent. Those stocks yield 13.8% and 6.9%, based on past distributions, respectively.

Investors can track dozens of high-yielding indexes at tickerspy.com.

Link to original article: http://www.tickerspy.com/newswire/?p=4402

Jefferies likes AGNC's innovative approach to risk management. Yikes!

Jefferies thinks American Capital Agency Corp. (AGNC) is fairly valued.  Words like “innovative approach to risk management” makes me think of Enron and their “innovative approaches”.  Likewise, words like “sophisticated hedging strategy” sounds to me like a house of cards propped up with counterparty risk.  The financial health of AGNC’s unnamed hedging counterparties cannot be determined.  Would you want to enter into a hedge with Lehman Brothers, AIG, or any other bankster?

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American Capital Agency's (NASDAQ: AGNC) reported 1Q11 results were $0.12 above consensus and book value grew 7% Q/Q. Despite substantial ROE outperformance and the most innovative approach to risk management in the REIT space, Jefferies views the shares as fairly valued. AGNC currently trades to a 1.15 multiple of book value, a justifiable premium to the pure-play Agency REIT average of 1.1x.

During the quarter, AGNC doubled the size of their investment portfolio. Surprising to Jefferies was the company's focus on fixed-rate product, which represented 82% of the total portfolio at quarter-end. Importantly, AGNC does not own TBA mortgages, but rather the company tends to focus on specified pools.

In 1Q11, AGNC increased its exposure not only to plain vanilla interest rate swaps, but also swaptions, synthetic I/O securities, and TBA and Treasury positions in order to increase the duration of their hedge portfolio. AGNC clearly employs the most sophisticated hedging strategy in the mortgage REIT space, Agency or non-Agency.

Jefferies has a $29 PT and Hold rating on AGNC

American Capital Agency closed Tuesday at $28.83

Read more: http://www.benzinga.com/analyst-ratings/analyst-color/11/04/1036131/jefferies-comments-on-american-capital-agency-following-#ixzz1KlL2IMiU

American Capital Agency (AGNC) reports 1Q2011 earnings; dividend still not safe.

American Capital Agency Corp. (AGNC) dividend is not safe.  It has a current dividend payout ratio of 107.6%.  Any payout ratio above 100% is a warning to the dividend investor to expect a cut in the future.  The company earned $1.30 per share for its reoccurring business operations of borrowing short (repurchase agreements) and lending long (agency securities).  But that wasn’t enough to cover the $1.40 quarterly dividend per share.

The company earned another $0.18 per share from the net realized gains on sales of agency securities, derivatives, and trading securities.  You can’t count on reoccurring income from these sales and hedges.

The company reported an improvement to its book value from $24.24 to $25.96.  Remember this – AGNC’s liabilities are real, but its asset values must be questioned.  The housing market is not done being clobbered and the government guarantees on agency securities are empty promises.  I place little faith in the book values of financial companies.  Think Lehman Brothers and their nice book value prior to their implosion.

The company remains highly leveraged 7.4 times.  I don’t like this.  It is a house of cards with an attractive dividend yield.  Net interest rate spreads remain the same as last quarter.  This will not change until interest rates rise.  Interest rates will rise.  It is only a matter of time before this house of financial cards comes crashing down.  Austrian economists predicted the the 2007-2008 crash back in 2005.  They are predicting another crash in the next few years depending on the actions of the Federal Reserve and the commercial bankers.

In summary:

·         Dividend - AGNC has a spectacular 19% dividend yield based on shaky leverage and an inflationary Federal Reserve.  A cut is coming in the next year.

·         Earning power - Its dividend is not supported by its reoccurring operations.  Its three year average earnings per share of $1.18 would only be slightly improved by a continuation of this quarter’s performance for the rest of 2011.  Only new capital issues and the occasional sale of some agency securities at a gain are keeping it afloat.

·         Balance sheet - Its balance sheet is horrible because its like a banks: borrowed short and lent long.  The moment that its 25 unnamed credit suppliers cease to rollover its short term debts the whole house of cards will come crumbling down.

You can view the earnings press release here: http://prn.to/AGNC1Q

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BETHESDA, Md., April 25, 2011 /PRNewswire/ -- American Capital Agency Corp. (“AGNC” or the “Company”) (Nasdaq: AGNC) today reported net income for the first quarter of 2011 of $133.5 million, or $1.48 per share, and book value of $25.96 per share.

FIRST QUARTER 2011 FINANCIAL HIGHLIGHTS

·         $1.48 per share of net income

o    $1.30 per share, excluding $0.18 per share of other investment related income

·         $1.68 per share of taxable income(1)

·         $1.40 per share first quarter dividend

·         $0.42 per share of undistributed taxable income as of March 31, 2011

o    Undistributed taxable income increased $16 million to $55 million

·         $25.96 book value per share as of March 31, 2011

o    Increased $1.72, or 7%, from $24.24 per share as of December 31, 2010

·         22% annualized return on average stockholders’ equity (“ROE”) for the quarter(2)

OTHER FIRST QUARTER HIGHLIGHTS

·         $28 billion investment portfolio value as of March 31, 2011

·         13% constant prepayment rate (“CPR”) for the first quarter of 2011(3)

o    11% CPR for the month of April 2011(4)

·         7.6x leverage as of March 31, 2011(5)

o    7.4x average leverage for the quarter

·         2.58% annualized net interest rate spread for the quarter

o    2.42% net interest spread as of March 31, 2011

·         $1.75 billion of net proceeds raised from equity offered during quarter

o    $1.61 billion raised in two follow-on offerings

o    $141 million raised pursuant to a Controlled Equity Offering(SM) Sales Agreement and via direct share purchase plan share issuances

o    All equity raised was accretive to book value

Here is the press release in its entirety:

BETHESDA, Md., April 25, 2011 /PRNewswire/ -- American Capital Agency Corp. (“AGNC” or the “Company”) (Nasdaq: AGNC) today reported net income for the first quarter of 2011 of $133.5 million, or $1.48 per share, and book value of $25.96 per share.

FIRST QUARTER 2011 FINANCIAL HIGHLIGHTS

·         $1.48 per share of net income

o    $1.30 per share, excluding $0.18 per share of other investment related income

·         $1.68 per share of taxable income(1)

·         $1.40 per share first quarter dividend

·         $0.42 per share of undistributed taxable income as of March 31, 2011

o    Undistributed taxable income increased $16 million to $55 million

·         $25.96 book value per share as of March 31, 2011

o    Increased $1.72, or 7%, from $24.24 per share as of December 31, 2010

·         22% annualized return on average stockholders’ equity (“ROE”) for the quarter(2)

OTHER FIRST QUARTER HIGHLIGHTS

·         $28 billion investment portfolio value as of March 31, 2011

·         13% constant prepayment rate (“CPR”) for the first quarter of 2011(3)

o    11% CPR for the month of April 2011(4)

·         7.6x leverage as of March 31, 2011(5)

o    7.4x average leverage for the quarter

·         2.58% annualized net interest rate spread for the quarter

o    2.42% net interest spread as of March 31, 2011

·         $1.75 billion of net proceeds raised from equity offered during quarter

o    $1.61 billion raised in two follow-on offerings

o    $141 million raised pursuant to a Controlled Equity Offering(SM) Sales Agreement and via direct share purchase plan share issuances

o    All equity raised was accretive to book value

“Our American Capital Agency team delivered another strong quarter with our strategy of actively managing the portfolio,” said John Erickson, AGNC Executive Vice President and Chief Financial Officer. “This strong performance occurred in a quarter marked by significant global economic and political events, which required the periodic reconsideration of investment strategies. Even in this challenging environment, we grew our book value by 7% to $25.96 per share and earned $1.48 per share of net income while taking steps to reduce risk. In addition, we have added to our AGNC investment staff to broaden our expertise, improve our depth and address the Company’s significant growth.”

“We continue to believe the combination of strong asset quality and diversification, coupled with a thoughtful hedging strategy, which includes some optional protection, remains critical to our ability to achieve our dual mandates of generating attractive returns for our shareholders and protecting book value within reasonable bands,” said Gary Kain, President and Chief Investment Officer of AGNC. “During the first quarter of 2011, the Company raised over $1.7 billion in new equity and continued to produce solid returns across a wide range of different measures.  Book value, undistributed taxable earnings and what many analysts call ‘core earnings’ were all higher during the quarter, despite lower leverage resulting from the typical time lags associated with deploying new capital.”

INVESTMENT PORTFOLIO

As of March 31, 2011, the Company’s investment portfolio totaled $28.2 billion of agency securities, at fair value, comprised of $22.9 billion of fixed-rate agency securities, $4.9 billion of adjustable-rate agency securities (“ARMs”) and $0.4 billion of collateralized mortgage obligations (“CMOs”) backed by fixed and adjustable-rate agency securities(6).  As of March 31, 2011, AGNC’s investment portfolio was comprised of 44% </= 15-year fixed-rate securities, 5% 20-year fixed-rate securities, 32% 30-year fixed-rate securities(7), 18% adjustable-rate securities and 1% CMOs backed by fixed and adjustable-rate agency securities.  

ASSET YIELDS, COST OF FUNDS AND NET INTEREST RATE SPREAD

During the quarter, the annualized weighted average yield on the Company’s average earning assets was 3.39% and its annualized average cost of funds was 0.81%, which resulted in a net interest rate spread of 2.58%, unchanged from the fourth quarter of 2010.  As of March 31, 2011, the weighted average yield on the Company’s earning assets was 3.47% and its weighted average cost of funds was 1.05%(8).  This resulted in a net interest rate spread of 2.42% as of March 31, 2011, an increase of 14 bps from the weighted average net interest rate spread as of December 31, 2010 of 2.28%(9).  

The weighted average cost basis of the investment portfolio was 104.4% (or 104.0% excluding interest-only strips) as of March 31, 2011. The amortization of premiums (net of any accretion of discounts) on the investment portfolio for the quarter was $48.0 million, or $0.53 per share.  The unamortized net premium as of March 31, 2011 was $1.2 billion.

The Company’s asset yield benefitted from purchases of higher yielding securities late in the fourth quarter of 2010 and during the quarter as the Company invested capital from its recent capital raises subsequent to recent increases in interest rates and from a decline in the projected CPR for the remaining life of the Company’s investments. Premiums and discounts associated with purchases of agency securities are amortized or accreted into interest income over the estimated life of such securities, using the effective yield method. Given the relatively high cost basis of the Company’s mortgage assets, slower prepayment projections can have a meaningful positive impact on asset yields.  The projected CPR for the remaining life of the Company’s investments as of March 31, 2011 was 10%; a decrease from 12% as of December 31, 2010.  The decrease in the projected CPR is largely due to purchases of lower coupon securities during the quarter coupled with increases in both spot and forward interest rates. The actual CPR for the Company’s portfolio held in the first quarter of 2011 was 13%, a decrease from 18% during the fourth quarter of 2010.  The most recent CPR for the Company’s portfolio for the month of April 2011 was 11%.

The Company’s average cost of funds declined 9 basis points from 0.90% for the fourth quarter of 2010 to 0.81% for the first quarter of 2011, due largely to timing differences between asset settlements and the initiation of new interest rate swap contracts. These differences led to lower effective swap costs during the quarter than is expected to occur in future periods. The cost of funds as of March 31, 2011 includes both current and forward starting swaps balances, net of expirations, within three months of quarter end.

LEVERAGE AND HEDGING ACTIVITIES

As of March 31, 2011, the Company’s $28.2 billion investment portfolio was financed with $22.0 billion of repurchase agreements, $0.1 billion of other debt(10) and $3.3 billion of equity capital, resulting in a leverage ratio of 6.6x.  When adjusted for the net payable for agency securities not yet settled, the leverage ratio was 7.6x as of March 31, 2011.  The average leverage for the quarter was 7.4x as the Company deployed capital from its recent equity raises.

Of the $22.0 billion borrowed under repurchase agreements as of March 31, 2011, $5.7 billion had original maturities of 30 days or less, $8.7 billion had original maturities greater than 30 days and less than or equal to 60 days, $5.8 billion had original maturities greater than 60 days and less than or equal to 90 days and the remaining $1.8 billion had original maturities of 91 days or more. As of March 31, 2011, the Company had repurchase agreements with 25 financial institutions.    

The Company’s interest rate swap positions as of March 31, 2011 totaled $15.1 billion in notional amount at an average fixed pay rate of 1.79%, a weighted average receive rate of 0.25% and a weighted average maturity of 3.6 years.  During the quarter, the Company increased its swap position, including forward starting swaps ranging up to twelve months, by $8.5 billion in conjunction with an increase in the portfolio size.  The new swap agreements entered into during the quarter have an average term of approximately 4.2 years and a weighted average fixed pay rate of 1.93%. The Company intends the use of swaps with longer maturities to protect its book value and longer term earnings potential.

The Company also utilizes swaptions to mitigate the Company’s exposure to larger changes in interest rates.  During the quarter, the Company added $1.6 billion of payer swaptions at a cost of $17.2 million and $0.3 billion of receiver swaptions at a cost of $0.4 million. During the quarter, $0.3 billion of payer swaptions from a previous quarter expired or were sold.  As of March 31, 2011, the Company had $2.1 billion in payer swaptions outstanding at a market value of $21.3 million.

As of March 31, 2011, 68% of the Company’s repurchase agreement balance and other debt were hedged through interest rate swap agreements. If net unsettled purchases and sales of securities are incorporated, this percentage declines to 60%.  These percentages do not reflect the swaps underlying the payer swaptions noted above, which have an average maturity of 6.1 years.

OTHER INCOME, NET

During the quarter, the Company produced $15.8 million in other income, net, or $0.18 per share.  Other income is comprised of $4.2 million of net realized gains on sales of agency securities, $31.0 million of net realized gains on derivative and trading securities and $19.4 million of net unrealized losses, including reversals of prior period unrealized gains and losses realized during the current quarter, on derivative and trading securities that are marked-to-market in current income.  

The net gains and losses (realized and unrealized) on derivative and trading securities generally represent instruments that are used to supplement the Company’s interest rate swaps (such as swaptions and short or long positions in “to-be-announced” mortgage securities (TBA’s), Markit IOS total return swaps(11) and  treasury securities). Under accounting rules, these positions are not in hedge relationships and consequently are accounted for through current income instead of shareholders’ equity.  The Company uses these supplemental hedges to reduce its exposure to interest rates.

TAXABLE INCOME

Taxable income for the first quarter of 2011 was $1.68 per share, or $0.20 higher than GAAP net income per share for the quarter. The primary difference between tax and GAAP net income is unrealized gains and losses associated with derivatives marked-to-market in current income for GAAP purposes but excluded from taxable income until realized or settled. Taxable income for the first quarter of 2011 benefited from the settlement of gains derived from short TBA positions and payer swaptions entered into during the fourth quarter of 2010. As of March 31, 2011, net unrealized gains that have been recognized for GAAP, but excluded from taxable income, totaled $10 million. Assuming no change in market prices as of March 31, 2011, the Company anticipates recognizing most of these net gains as taxable income during the second quarter of 2011.

NET ASSET VALUE

As of March 31, 2011, the Company’s net asset value per share was $25.96, or $1.72 higher than the December 31, 2010 net asset value per share of $24.24.  

FIRST QUARTER 2011 DIVIDEND DECLARATION

On March 7, 2011, the Board of Directors of the Company declared a first quarter 2011 dividend of $1.40 per share payable on April 27, 2011, to stockholders of record as of March 23, 2011. Since its May 2008 initial public offering, the Company has paid or declared a total of $499.2 million in dividends, or $14.66 per share.  After adjusting for the first quarter 2011 accrued dividend, the Company had approximately $55 million of undistributed taxable income as of March 31, 2011, an increase of $16 million from December 31, 2010. Undistributed taxable income per share as of March 31, 2011 was $0.42 per share.  

(1) Based on the weighted average shares outstanding for the quarter.  Please refer to the section on the use of Non-GAAP financial

AGNC's liabilities are real and their book value must be questioned.

I wonder what Wunderlich Securities analysts are smoking?  These people are obviously devotees to Keynesian economics.  They believe that printing money to buy US Treasuries or agency MBS will only make the economic crisis worse later and destroy AGNC’s profitability.  The Federal Reserve is attempting to paper over the problem they created.  AGNC’s liabilities are real, but their asset values must be questioned.  The book value of AGNC is bogus.  I wrote about this recently:

http://bit.ly/EconFools

Anyone who assumes that AGNC’s book value as stated in their financial reports is trustworthy will be sorely mistaken when the next financial crisis hits.  The loss of book value can be caused by several factors.  They will happen.  It is just a matter of time.  The laws of economics assure it.

The structural problem in the world financial system remain unfixed.  Keynesian central bankers are inflating wildly forestall the day of reckoning.  The next financial crisis will destroy MBS REITs profitability and book values.  Enjoy the high dividend yields while they last.

So be warned that there is trouble on the horizon for the MBS high dividend stocks and plan your exit accordingly.  Annaly Capital Management (NLY) has decreased its dividend during the last two quarters.  I expect AGNC to do the same.

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Wunderlich Securities has a research report on housing finance and mortgage REITs. In the note, Wunderlich mentions American Capital Agency Corp. (NASDAQ: AGNC).”

In a note to clients, Wunderlich writes, "Market concerns over the pending termination of QE2 pressured the mortgage REITs. Though we believe the homeowner lacks the financial flexibility to carry the economy out of the ongoing sluggish economy, we do expect that interest rates could tend to rise through May and the end of this round of easing. At the same time, we believe that easing will continue, though perhaps in different forms. For example, a policy to keep mortgage rates low could be executed through purchases of agency MBS, which could sustain liquidity in the housing finance secondary market. Higher benchmark rates could put pressure on book value and tighten spreads, but we believe that relatively high dividends in our coverage universe will be sustainable. With dividends providing price support, we expect the group to stage a slow recovery to an average 15% premium to trailing book value."”

Shares of AGNC lost 17 cents on Friday to close at $28.53, a loss of 0.6%.

Read more: http://www.benzinga.com/analyst-ratings/analyst-color/11/04/1010248/wunderlich-securities-discusses-housing-finance-and-mort#ixzz1JtQ8Nw1C

A tale of two book values (AGNC and SB).

I have been concentrating on analyzing dividend records and determining the earning power of various high dividend stocks since August 2010.  But there is another major component of high dividend stock analysis: balance sheet analysis.  Today I will start a series of blog posts covering balance sheet analysis.  I will focus my efforts mostly upon American Capital Agency Corp (AGNC) and Safe Bulkers (SB).

Today I will start examining the book values of AGNC and SB.  It takes some digging in the annual reports to get accurate numbers.

AGNC book value as of December 31st, 2010 is $24.24 per share:

            Tangible assets: $14,476 M (mostly agency securities)

            Intangible assets: none

            Preferred stock: none

            Bonds: none

Minus  Total liabilities: $12,904 M (mostly repurchase agreements)

Equals shareholder equity: $1,572 M

Book value = equity / number of shares = $1,572 M / 64.856 M = a book value of $24.24 per share.

The question for AGNC becomes – How were the prices of the agency securities determined?  Mortgage backed securities are not exactly known for their price transparency.  They are somewhat toxic.  That is why the big banks off loaded them to the Federal Reserve during the financial panic of 2008-2009 and received US treasury bonds in return.  The guarantees from Fannie and Freddie will be revoked in the future due to massive US budget deficits.  I don’t trust the stability of the agency securities prices for three reasons and I will use their own words from their risk factors against them:

1) a continued depression in the housing/mortgage market hurts the value of AGNC’s agency securities.

Continued adverse developments in the broader residential mortgage market may adversely affect the value of the agency securities in which we invest.

Since 2008, the residential mortgage market in the United States has experienced a variety of unprecedented difficulties and changed economic conditions, including defaults, credit losses and liquidity concerns. Many of these conditions are expected to continue in 2011 and beyond. Certain commercial banks, investment banks and insurance companies announced extensive losses from exposure to the residential mortgage market. These losses reduced financial industry capital, leading to reduced liquidity for some institutions. These factors have impacted investor perception of the risk associated with real estate related assets, including agency securities and other high-quality residential mortgage-backed securities (“RMBS”) assets. As a result, values for RMBS assets, including some agency securities and other AAA-rated RMBS assets, have experienced a certain amount of volatility. Further increased volatility and deterioration in the broader residential mortgage and RMBS markets may adversely affect the performance and market value of our agency securities.

We invest exclusively in agency securities (other than for hedging purposes) and rely on our agency securities as collateral for our financings. Any decline in their value, or perceived market uncertainty about their value, would likely make it difficult for us to obtain financing on favorable terms or at all, or maintain our compliance with terms of any financing arrangements already in place. Substantially all of the agency securities we invest in are classified for accounting purposes as available-for-sale. All assets classified as available-for-sale are reported at fair value with unrealized gains and losses excluded from earnings and reported as a separate component of stockholders’ equity. Agency securities that we invest in that are classified as trading securities are reported at fair value, with unrealized gains and losses included in current income. As a result, a decline in fair values may reduce the book value of our assets. Moreover, if the decline in fair value of an available-for-sale security is other-than-temporarily impaired, such decline will reduce earnings. If market conditions result in a decline in the fair value of our agency securities, our financial position and results of operations could be adversely affected.

2) If the Federal Reserve sells enough agency securities, then that will hurt the value of AGNC’s securities (not likely anytime soon)

Federal Reserve programs to purchase securities could have an adverse impact on the agency securities in which we invest.

Beginning in November 2008, the Federal Reserve initiated a program to purchase direct obligations of Fannie Mae, Freddie Mac and the Federal Home Loan Bank and agency securities backed by Fannie Mae, Freddie Mac and Ginnie Mae. In total, this program resulted in the Federal Reserve purchasing $300 billion of direct obligations and $1.75 trillion of agency securities with the purchase program ending in the first quarter of 2010. One of the effects of this program has been to increase competition for available direct obligations and agency securities, with the result being an increase in pricing of such securities. The Federal Reserve may hold the direct obligations and agency mortgage securities to maturity or may sell them on the open market. Sales by the Federal Reserve of the direct obligations or agency mortgage securities that it currently holds may reduce the market price of such securities. Reductions in the market price of agency mortgage securities may negatively impact our book value.

In addition, the Federal Reserve initiated a program in November 2010 to purchase up to $600 billion of long-term U.S. Treasury securities by mid-2011 as part of its continuing effort to help stimulate the economy by reducing mortgage and interest rates. Such action could negatively affect our income or our net book value by impacting interest rate levels and the spread between mortgage rates and other interest rates. Thus, these actions could reduce the yields on assets that we are targeting for purchase, thereby reducing our net interest spreads. Alternatively, the Federal Reserve’s actions may not have the intended impact and could create inflation and higher interest rates. This could negatively impact our net book value or our funding cost.

3) Interest rates rise (this is likely as soon as the end of QE 2)

Because we invest in fixed-rate securities, an increase in interest rates on our borrowings may adversely affect our book value or our net interest income.

Increases in interest rates may negatively affect the market value of our agency securities. Any fixed-rate securities we invest in generally will be more negatively affected by these increases than adjustable-rate securities. In accordance with GAAP, we are required to reduce our stockholders’ equity, or book value, by the amount of any decrease in the fair value of our agency securities that are classified as available-for-sale.

Reductions in stockholders’ equity could decrease the amounts we may borrow to purchase additional agency securities, which may restrict our ability to increase our net income. Furthermore, if our funding costs are rising while our interest income is fixed, our net interest income will contract and could become negative.

Safe Bulkers (SB) book value as of December 31st, 2010 is $3.71 per share:

Tangible assets: $805.372 M (mostly 16 dry bulk ships)

Intangible assets: none

Preferred stock: none

Bonds: none

Minus  Total liabilities: $561.239 M (mostly loans for ship purchases)

Equals shareholder equity: $244.133 M

Book value = equity / number of shares = $244.133 M / 65.88 M = a book value of $3.71 per share.  I don’t see any risk factors in Safe Bulkers annual report that could affect their book value.  The prices of ships are easy to determine and their prices are very visible to those who interact with ship brokers.

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Chapter 42

BALANCE-SHEET ANALYSIS.

SIGNIFICANCE OF BOOK VALUE

ON NUMEROUS OCCASIONS prior to this point we have expressed our conviction that the balance sheet deserves more attention than Wall Street has been willing to accord it for many years past. By way of introduction to this section of our work, let us list five types of information and guidance that the investor may derive from a study of the balance sheet:

1. It shows how much capital is invested in the business.

2. It reveals the ease or stringency of the company’s financial condition, i.e.,

the working-capital position.

3. It contains the details of the capitalization structure.

4. It provides an important check upon the validity of the reported earnings.

5. It supplies the basis for analyzing the sources of income.

In dealing with the first of these functions of the balance sheet, we shall begin by presenting certain definitions. The book value of a stock is the value of the assets applicable thereto as shown in the balance sheet.  It is customary to restrict this value to the tangible assets, i.e., to eliminate from the calculation such items as good-will, trade names, patents, franchises, leaseholds. The book value is also referred to as the “asset value,” and sometimes as the “tangible-asset value,” to make clear that intangibles are not included. In the case of common stocks, it is also frequently termed the “equity.”

Computation of Book Value. The book value per share of a common stock is found by adding up all the tangible assets, subtracting all liabilities and stock issues ahead of the common and then dividing by the number of shares.

In many cases the following formula will be found to furnish a short cut to the answer:

= (Common Stock + Surplus Items – Intangibles) / Number of shares outstanding

By Surplus Items are meant not only items clearly marked as surplus but also premiums on capital stock and such reserves as are really part of the surplus. This would include, for example, reserves for preferred-stock retirement, for plant improvement, and for contingencies (unless known to be actually needed). Reserves of this character may be termed “Voluntary Reserves.”

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Is AGNC really a low P/E stock?

The current price/earnings ratio of AGNC is highly deceptive:

Morningstar reports a forward P/E of 6.1.

Google Finance reports a P/E of 3.69.

Yahoo! Finance reports a P/E (ttm) of 3.53.

These are all low numbers.  Single digit P/E ratios usually indicate possible value investments.  But let’s take a closer look at AGNC’s earnings.  Let’s adjust them for the amazing increase in the number of shares issued and used to leverage up the purchase more agency securities in the government subsidized mortgage market.

American Capital Agency Corp. (AGNC)

Shares: 124.63 M (only 36 M at end of 2010)

Market price: $27.83

Dividend yield: 20.1%

Quarterly dividend: $1.40

(EPS adjusted for drastic changes in capitalization)

                        Net inc.

            EPS     Avail.              Adj. EPS

2006

2007

2008    $2.36   $35 M              $0.28

2009    $6.78   $119 M            $0.95

2010    $7.89   $228 M            $2.31

Three year average earnings equals $1.18 per share.  Value investments typically start below 12 times average earnings.  In AGNC’s case 12 times average earnings equals $14.16 per share.  20 time average earnings equals $23.60 per share.  AGNC is currently selling for 23.6 times average earnings.  This is above 20 which makes a purchase of AGNC above $23.60 a speculative purchase.

Suddenly those low current P/Es don’t seem to hold up anymore when you calculate AGNC’s average earning power over the past three years.

I have warning in other articles that AGNC is will not be able to pay its hefty $1.40 dividend with so many new shares being issued.   If it uses the proceeds of the public offering to pay the current quarter’s dividend, then it is just bidding time before it disappoints shareholders with a larger dividend cut in the future when net income decreases due to a narrowing of the interest rate spread.  That’s how they make their money.

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American Capital Agency Declares $1.40 First Quarter Dividend. Where is the money coming from?

American Capital Agency Corp. (AGNC) just declared another $1.40 quarterly dividend.  Where are they getting the money to cover this dividend?  They are not earning enough income to cover their dividend.  Here is an excerpt of what a wrote after AGNC released 4Q2010 earnings a few weeks ago:

·         American Capital Agency Corp. (AGNC) reports $1.26 net income per share, excluding $1.24 of other income (mostly the sale of agency securities and derivatives paying off).  AGNC’s earning power is less than their dividend payments.

·         They paid a $1.40 dividend for 4Q2010.  Their net income doesn’t cover the dividend.  Dividend payout ratio was 111% excluding the irregular income items.

They can continue issuing new shares to raise capital, but then the total dividend payment is bigger and they would have to lower the dividend rate per share.  This can't go on too many quarters longer.  The stock price is going to tumble when they cut their dividend and the management knows it.  They are kicking the can for as long as they can.

This high dividend stocks does not have enough earning power to sustain a $1.40 per share dividend and it has a weak balance sheet.

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American Capital Agency Declares $1.40 First Quarter Dividend
 
BETHESDA, Md., March 7, 2011 /PRNewswire/ -- American Capital Agency Corp. (Nasdaq: AGNC) ("AGNC" or the "Company") announced today that its Board of Directors has declared a cash dividend of $1.40 per share for the first quarter 2011.  The dividend is payable on April 27, 2011 to common shareholders of record as of March 23, 2011, with an ex-dividend date of March 21, 2011.