It’s hard to dispute that having your money in mREITs (Mortgage Real Estate Investment Trusts) has been a lucrative endeavor over the past few years (with a few exceptions, of course). Reaping huge dividends while interest rates are low is the name of the game in this arena, and the best players will need to know if a company is signaling a downward revision to its payouts.
It’s anyone’s guess where interest rates are headed, but there is a simple metric we employ to measure the risk of an upward or downward surprise in distributions in this red hot sector.
The crux of the MREIT business model is employing leverage to magnify an interest spread. An overly simplified example would be if you could borrow 5% and invest in a preferred stock that earned 6%, netting you 1% on your investment. Imagine now that your borrowing source allowed you to borrow five times as much as your initial investment. Your return has now ballooned to around 5%. Without delving into repurchase agreements and margin accounts, this is the general principle at hand.
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