Annaly’s waiting for a better entry point to increase its exposure

Market Realist

A must-know guide to Annaly Capital's 1Q14 earnings (Part 4 of 5)

(Continued from Part 3)

Highlights of the conference call

On the company’s conference call to analysts and investors, Annaly CEO Wellington Denahan addressed the current interest rate environment and where she saw the company heading in the future.

On the current interest rate environment

Denahan said, “The first quarter of 2014 was a mix of conflicting signals. A combination of bad weather and bad communication caused confusion among policymakers and investors. During her first official press conference, Chairman Yellen was coaxed in the Q&A into defining ‘extended period.’ She sheepishly responded that it was six months, only later to soften such precision in subsequent speeches.”

For what it’s worth, Janet Yellen did throw the markets for a loop on the “six months” comment, although she didn’t forecast that the Fed would start raising rates in six months, just that it was a possibility.

Denahan further remarked, “During the quarter, the 10-year treasury briefly touched 3%, but has since traded at the richer end of the range, giving us some pause. We feel there will be opportunity in a weather-related rebound in the economic data that would provide good entry points  in the quarters ahead.”

What Denehan is basically saying is that the ten-year has been trading in a range of 2.6% to 3.0% for quite some time, and it’s trading at the low end of that range currently. The drop in yield may have been driven by the weaker GDP report a few weeks ago, and she’s betting that second quarter economic growth will rebound smartly, as Q1′s weakness was weather-related. Economic strength is generally bond-bearish, and she’s saying that while she wants to invest, she isn’t going to chase anything.

This view on the economy would apply to other REITs, like MFA Financial (MFA), Capstead (CMO), or Hatteras (HTS).

Changes in investment posture

The biggest change will be that the company will transition from a defensive posture (low leverage and heavy hedges) to a more offensive posture (more leverage, less hedging). On the fourth quarter conference call, Denahan mentioned that Annaly could add $24 billion in assets to reach 7x leverage, which would leave the company still less levered than its peers.

Note that American Capital Agency (AGNC)—Annaly’s biggest competitor—has not only been buying its own stock, but it has also been buying stock in its competitors.

If Annaly increases leverage and rates manages to hold in here, then its earnings should increase, which would mean a higher dividend per share.

Continue to Part 5

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