This High-Yielding REIT Has Soared Along With the Housing Market

Emmanuel is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

If you are a dividend investor, Arlington Asset Investment (NYSE: AI) should be on your radar. This company has consistently paid dividends since 2003, and currently yields a whopping 14%. On top of that, its shares are also doing well, gaining an astounding 26.9% growth this year.

Arlington Asset Investment is a small-cap investment firm with a market capitalization of $425.34 million. The company specializes in the acquisition of residential mortgage-backed securities secured either by U.S. government agencies or by U.S. government-sponsored entities as to principal and interest. It also has several mortgage-backed securities issued by private organizations in its portfolio.

Investment profile

The firm's investment portfolio mainly consists of Agency mortgage-backed securities (MBS) with a fair value $1.8 billion, and private-label MBS worth $328.9 million as of June 30, 2013. The combined value of the company's MBS portfolio is approximately $2.1 billion.

J.Rock Tonkel Jr, President and Chief Operating Officer of Arlington Asset Investment, stated that the strong second quarter performance with increased net interest income of $4.2 million for the quarter was very encouraging given that the period was rocked with volatility in interest rates and instability in interest rate-sensitive securities. This is also a reflection of the company’s relatively stable financials. Its hybrid portfolio is founded on a strong and highly-efficient structure that is designed to create both strong current returns and growth. Consequently, management remains optimistic on the future investment opportunities ahead in the midst of a normalized monetary policy and economy.

Arlington Asset Investment versus its peers

Aside from Arlington Asset Investment, there are also other firms with attractive yield for good dividend investing. One of them is Two Harbors (NYSE: TWO), which is a hybrid REIT with a relatively attractive yield of 12.35%. Two Harbors is primarily engaged in investing in and financing residential mortgage-backed securities.

Two Harbors is undervalued at $10 per share, considering that the company is a well-managed hybrid REIT with an efficient investing strategy. It has a good track record of investing in varied asset classes and in alternative MBS. During the first quarter, the firm was also able to secure approval from Freddie Mac to make one of its wholly-owned subsidiaries a servicer in Two Harbors’ home mortgage program. This will enable the company to invest in MSRs on mortgage loans, with Freddie Mac as the guarantor.

Another close competitor is MFA Financial (NYSE: MFA), which currently yields 10.88% with year-to-date growth in shares of 5.69%. MFA Financial primarily focuses on investing in residential Agency MBS and Non-Agency MBS. 

MFA Financial has quite attractive carry, with limited interest rate risk. It is maintaining an Agency MBS portfolio in excess of $7 billion. It also owns Non-Agency MBS with approximate market value of $5.4 billion against face value of $6.3 billion that generated 6.8% loss-adjusted yield during the first quarter, on an unlevered basis. 

The first quarter performance for MFA Financial was strong, generating net income of $289.89 million, or $0.81 diluted earnings per share. The main strategy of MFA Financial is to pinpoint the best investment opportunities within the residential MBS universe. Since 2000, it has yielded 17.3% annual return and 727.8% total return. The management sees better months ahead amid the rising rentals in multifamily units, minimal mortgage rates, and limited housing supply. These factors will help support price appreciation on a nationwide scale.

Market outlook

On July 18, Moody's eased off the threat of lowering its U.S. rating, actually affirming that the U.S. economy is improving by giving it a triple-A rating. An improved economy will greatly benefit the housing market, and this will also help support the upward trend of REITs and Arlington Asset Investment.

Despite that, there are still many challenges facing REITs today amid rising interest rates. REITs were pulled down last May as a result of the eventual phase out of the quantitative easing program of the U.S. Central Bank. This caused panic among many investors, compelling many of them to leave the sector. But since June 24, panic started to subside and some investors started to return to the sector, helping REITs outperform the broader market.

The managing director at Fitch Ratings, Steven Marks, shared some insights on the newly-published Fitch mid-year review of the REIT market. The review concluded that the overall REIT sector is relatively stable. This conclusion was based on several factors that include strong liquidity, excellent access to capital, and improving fundamentals among many REIT firms.

The bottom line

While REITs stumbled during the second quarter, the fundamentals remained strong and many REITs continued to be profitable while short-term rates are still low. The recent retreat provided a good chance for new investors to hop in. Arlington Asset Investment has great potential to benefit along with a strengthening housing market in the U.S.

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Emmanuel Floriann Magto has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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