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Why REITs Are The Top Sector for Income Investors Right Now

Companies / Housing Stocks Jan 23, 2011 - 10:37 AM GMT

By: Investment_U


Best Financial Markets Analysis ArticleDavid Fessler writes: If you’re among the many millions of baby-boomers approaching retirement, there’s an excellent chance that you’ve focused your investment portfolio heavily towards one main investing theme: Income.

But the ballgame has changed significantly.

Not so long ago, traditional income-based investments like high-yield savings accounts, bank CDs and U.S. Treasuries were the most popular choices.

But these days, those choices are akin to dumping your money in the living room and staring at it, in hope that it will somehow multiply.

Income from them won’t even feed your pets, let alone allow for a comfortable retirement.

But here’s an investment that will – my big income idea for 2011…

REITs… Wall Street’s New Investment Gem

It’s no surprise that Real Estate Investment Trusts – better known as REITs – are quickly becoming Wall Street gems among in-the-know investors. After all, REITs boast some of the highest yields on the market and were one of the best-performing areas in the financial sector last year.

For example, the Vanguard REIT ETF (NYSE: VNQ) – which holds nearly 100 different REITs – closed out 2010 with a respectable 24% gain. That’s in stark contrast to the broader financial sector, which pretty much flat-lined during 2010.

For 2011, I expect REITs to perform in a similar fashion as last year, while churning out large dividends. Why? Cheap money…

What Makes REITs Such Great Investments?

When interest rates are low – as they were last year – REITs can make a killing. In fact, some are paying over 19% interest to shareholders.

So how do REITs offer the kind of killer returns we’re talking about?

Their business model is quite simple:

•They borrow money using low-interest, short-term securities.
•Then they use those funds to purchase high-interest, long-term assets.
•Investors pocket the difference, known as the “spread,” which can be substantial.
As long as interest rates remain low, they can continually refinance their short-term borrowings, thus boosting their profits and dividend payouts for shareholders. And the consensus is that interest rates will remain low. Here are a few key reasons why:

•Unemployment continues to hover just below 10% and will likely remain there for the foreseeable future.
•Inflation is nowhere to be seen.
•We may see more “quantitative easing” from the Federal Reserve.
In addition, REITs are required by law to distribute 90% of their taxable income to shareholders. This keeps dividend payments stable, further increasing their attractiveness to income-seeking investors.

The Top Two REITs on the Block

Having scoured the market, there are two REITs that stand out from the pack…

The first is Annaly Capital Management, Inc. (NYSE: NLY). Annaly owns, manages and finances real estate investments. Its massive portfolio mostly includes assets that it’s purchased from Fed-backed Fannie Mae (NYSE: FNM) and Freddie Mac.

And for income hunters, the company throws back an annual $2.56 per share to investors – a 14.5% dividend yield.

Even in the rough real estate climate, Annaly is faring extremely well. It’s strung together several quarters of strong results, which should keep those high dividends flowing to shareholders throughout 2011.

In addition, consider American Capital Agency Corporation (Nasdaq: AGNC). Similar in structure to Annaly, American Capital’s earnings come from investing in residential pass-through securities and collateralized mortgage obligations (CMOs).

And like Annaly, it’s safe in the knowledge that, Fannie and Freddie guarantee these securities, while some others are backed by the Government National Mortgage Association (Ginnie Mae).

You should steer clear of REITs that don’t invest in government-backed securities. They carry significantly higher implied risk, with little difference, if any, in yield.

American Capital sports a whopping 19.5% yield a $5.60 per share payout each year.

REITs: Giving Your Portfolio a One-Two Punch

It’s also worth keeping in mind that while most investors are drawn to REITs for their high-income producing ability, some REITs generate healthy capital appreciation, too. That one-two punch, coupled with virtually no default risk, is compelling, to say the least.

As long as interest rates and inflation remain close to zero, REITs will continue to generate significant earnings… and monster dividends for shareholders who decide to invest in them.

If you’re looking for high income with relatively low risk, REITs could be for you.

Good investing,


by David Fessler, Advisory Panelist, Investment U

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Disclaimer: Investment U Disclaimer: Nothing published by Investment U should be considered personalized investment advice. Although our employees may answer your general customer service questions, they are not licensed under securities laws to address your particular investment situation. No communication by our employees to you should be deemed as personalized investment advice. We expressly forbid our writers from having a financial interest in any security recommended to our readers. All of our employees and agents must wait 24 hours after on-line publication or 72 hours after the mailing of printed-only publication prior to following an initial recommendation. Any investments recommended by Investment U should be made only after consulting with your investment advisor and only after reviewing the prospectus or financial statements of the company.

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home buyer
24 Jan 11, 08:07
Fannie and Freddie

"Fannie and Freddie play a central role in our housing finance system and must continue to do so in their current form as shareholde­r-owned companies. Their role in the housing market is particular­ly important as we work through the current housing correction­. The GSEs now touch 70 percent of new mortgages and represent the only functionin­g secondary mortgage market. The GSEs are central to the availabili­ty of housing finance, which will determine the pace at which we emerge from this housing correction­. ...

OFHEO has reaffirmed that both GSEs remain adequately capitalize­d. At the same time, recent developmen­ts convinced policymake­rs and the GSEs that steps are needed to respond to market concerns and increase confidence by providing assurances of access to liquidity and capital on a temporary basis if necessary.­"

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