Should you buy ARMOUR Residential REIT or American Capital Agency Corp?

First, some statistics

• $70.5 billion in agency MBS

• 7.6:1 leverage ratio

• 11.1% dividend yield

American Capital Agency Corp (AGNC) ARMOUR Residential REIT (ARR)

• $16.5 billion in agency MBS

• 8.12:1 leverage ratio

• 13.9% dividend yield

Portfolio Composition

• American Capital Agency’s portfolio is made up of a mix of agency-backed MBS– 48% of the portfolio is 15-year MBS– 46% is 30-year mortgages– The rest is made of hybrid

adjustable-rate and 20-year mortgages as well as CMOs

American Capital Agency Corp (AGNC)

Data source: company investor presentation

Portfolio Composition

• Like American Capital Agency, ARMOUR’s portfolio is made of fixed-rate, agency-backed MBS

• However, almost all of the portfolio is made of 15- and 20-year mortgages

ARMOUR Residential REIT (ARR)

Data as of 3/31/14Source: ARMOUR’s 10Q

Profit margins

• ARMOUR’s average yield from its assets is lower than American Capital Agency’s (3.19% vs. 3.5%) due to the lack of higher-paying 30-year mortgages in its portfolio

• However, ARMOUR’s average net interest margin is higher (1.83% vs. 1.43%)• ARMOUR sold $5.6 billion in underperforming 25-

and 30-year MBS during the quarter at a $303 million realized capital lossSource: ARMOUR’s Press Release

Why is ARMOUR’s dividend higher?

• ARMOUR’s leverage is 8.12 to 1• Average net interest margin is 1.82%• 8.12 times 1.82% = 14.78%• REITs have to pay 90% of their income• So, 90% of 14.78% is 13.3%, pretty close to

ARMOUR’s yield

Where does American Capital Agency’s dividend come from?

• AGNC’s leverage is 7.6 to 1• Average net interest margin is 1.43%• 7.6 times 1.43% = 10.87%• REITs have to pay 90% of their income• 90% of 10.87% is 9.78%, • However, AGNC has other sources of income,

like its $352 million worth of other mortgage REIT’s shares

The dividend frequency matters too!

• American Capital Agency pays quarterly dividends, while ARMOUR has the advantage of monthly payments

• Monthly dividends allow your returns to compound faster, producing a higher effective rate of return

Effective Annual Dividend Yield

• A 11.1% dividend paid quarterly produces a 11.6% effective annual yield

• Consider the growth of $1,000 at this rate for 30 years

American Capital Agency

Effective Annual Dividend Yield

• A 13.9% dividend paid monthly produces a 14.8% effective annual yield

• As you can see, ARMOUR’s higher dividend could make a BIG difference over time

ARMOUR Residential REIT

So, why would anyone choose American Capital Agency?

• Management has shown it is willing to do whatever it takes to make money for its shareholders

• The company aggressively bought back shares during 2013, when the stock was trading for up to 20% less than book value• AGNC bought back more than 10% of its shares in 2013

(ARMOUR issued more new shares than it purchased)• The company also purchased shares of rival mREITs

which were trading at even deeper discounts

A lower dividend, but better results• Even though its dividend is lower, American

Capital Agency has significantly outperformed ARMOUR so far in 2014

• AGNC earned a return on equity of 5.1% for the quarter (20.5% annualized) • $0.65 dividend plus $0.56 increase in book value

• ARMOUR’s annualized ROE is 12.3%

A good lesson to learn• Just because one company pays a higher

dividend doesn’t mean it will deliver the better results

• American Capital Agency is not just focused on providing income, but looks to increase the net asset value per share

• This will provide income and growth over the long run

Is this a better investment than mortgage REITs?