Finding income sources remains a top priority for the nation's Baby Boomers as they head into their golden years. Many have sought refuge in a variety of high-yield sectors. Real estate investment trusts (REITs) are one area of the market that has received much investor attention. With the rebounding commercial real estate markets and general economic recovery, REITs have been become a popular destination for income seekers. Funds like the SPDR Dow Jones REIT (NYSE:RWR) have swelled with assets, as investors have sought exposure to the higher yielding trusts. However, with the Federal Reserve signaling that it kept interest rates low, one sub-sector of the REIT marketplace may be the perfect place to find high income potential.

TUTORIAL: 20 Investments To Know

Paper Tigers
When most investors think of real estate investment trusts, they think of equity REITs or those that invest in and physically own properties. These companies own shopping malls, office buildings and warehouses, and then collect rent from tenants. However, less than 10% of the sector falls into the category of mortgage REITs. This variety of real estate investment trust loans money to owners of real estate or, more commonly, purchases existing mortgages or mortgage-backed securities (MBSs). Many of these companies borrow at near-zero interest rates, courtesy of the fed, and then use that leverage to purchase mortgage-backed securities. These MBS's can be insured by federal agencies (like Ginnie Mae) or those without agency insurance (non-agency). There is different risk-return profiles associated with each of these segments of mortgage bonds, and many MREITs offer a blend of the two. This blend and leverage often results in dividend yields north of 9%.

The real kicker for the MREIT sector lies within short term interest rates. As these rates rise, so do their borrowing costs. Ultimately, reducing dividend payments available to shareholders. However, with the economy still trudging alone in second gear, it may be even longer than expected before the Fed hikes rates. Bernanke has already hinted that reducing the Fed's multi-trillion dollar balance sheet will be the first step of monetary tightening. As rates continue to hover near zero, borrowing costs for the MREITs will remain cheap. In addition, with the end of the Fed's quantitative easing programs, yield and dividends could trump growth.

Playing the Spread
For those investors looking to add a little spice to their income portfolios, mortgage REITs make an ideal choice for gaining some yield. The sector isn't without risk, but with rates staying next to zero, it could offer some outlandish dividends for at least a year or so. Individuals who wish to take a broad approach to the sector, the iShares FTSE NAREIT Mortgage Plus Capped Index (NYSE:REM) follows a basket of 50 mortgage REITs as well as banks with strong mortgage operations. Top holdings include Hudson City Bancorp (Nasdaq:HCBK) and Two Harbors Investment (NYSE:TWO) and the ETF yields 10.35%.

The "best of breed" play within the MREIT sector has to be Annaly Capital (NYSE:NLY). Focusing on agency bonds, Annaly has impressively managed to navigate the waters of the Great Recession, and recently upped its dividend raised its dividend from 62 cents per share up to 65 cents, and yields 14%. For those looking for riskier non-agency play on Annaly's success, Chimera Investment (NYSE:CIM) is managed by a subsidiary of the MREIT. Chimera yields 14%.

For those looking for truly high yield, asset manager and PowerShares ETF sponsor, INVESCO (NYSE:IVZ) created INVESCO Mortgage Capital (NYSE:IVR) during the height of the credit crisis to in order to bottom-fish some of the deals in the MBS space. IVR recently raised $394 million in a secondary offering, which the company will use to buy additional securities. Shares of IVR yield just over 18% and trade at approximately a 5% discount to book value.

Finally, for investors looking for analyst direction for their MREIT investment, JMP Securities recently upgraded both American Capital Agency (Nasdaq:AGNC) and Hatteras Financial (NYSE:HTS) from "perform" to "outperform". Shares of these MREITs yield 19.4% and 14.5%, respectively.

The Bottom Line
As the search for income continues, the mortgage REIT sub-sector could be just what investors are looking for. As the Federal Reserve keeps interest rates at near zero levels, stocks in the MREIT sector such as Cypress Sharpridge Investments (NYSE:CYS) should continue to do well and add extra oomph to a dividend portfolio.

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

Related Articles
  1. Investing

    How to Ballast a Portfolio with Bonds

    If January and early February performance is any guide, there’s a new normal in financial markets today: Heightened volatility.
  2. Stock Analysis

    Performance Review: Emerging Markets Equities in 2015

    Find out why emerging markets struggled in 2015 and why a half-decade long trend of poor returns is proving optimistic growth investors wrong.
  3. Investing News

    Today's Sell-off: Are We in a Margin Liquidation?

    If we're in market liquidation, is it good news or bad news? That party depends on your timeframe.
  4. Investing News

    Bank Stocks: Time to Buy or Avoid? (WFC, JPM, C)

    Bank stocks have been pounded. Is this the right time to buy or should they be avoided?
  5. Stock Analysis

    Why the Bullish Are Turning Bearish

    Banks are reducing their targets for the S&P 500 for 2016. Here's why.
  6. Stock Analysis

    How to Find Quality Stocks Amid the Wreckage

    Finding companies with good earnings and hitting on all cylinders in this environment, although possible, is not easy.
  7. Chart Advisor

    How Are You Trading The Breakdown In Growth Stocks? (VOOG, IWF)

    Based on the charts of these two ETFs, bearish traders will start turning their attention to growth stocks.
  8. Mutual Funds & ETFs

    Pimco’s Top Funds for Retirement Income

    Once you're living off the money you've saved for retirement, is it invested in the right assets? Here are some from PIMCO that may be good options.
  9. Chart Advisor

    Watch This ETF For Signs Of A Reversal (BCX)

    Trying to determine if the commodity markets are ready for a bounce? Take a look at the analysis of this ETF to find out if now is the time to buy.
  10. Investing News

    What You Can Learn from Carl Icahn's Mistakes

    Carl Icahn has been a stellar performer in the investment world for decades, but following his lead these days could be dangerous.
RELATED FAQS
  1. Should mutual funds be subject to more regulation?

    Mutual funds, when compared to other types of pooled investments such as hedge funds, have very strict regulations. In fact, ... Read Full Answer >>
  2. Do ETFs pay capital gains?

    Exchange-traded funds (ETFs) can generate capital gains that are transferred to shareholders, typically once a year, triggering ... Read Full Answer >>
  3. How do real estate hedge funds work?

    A hedge fund is a type of investment vehicle and business structure that aggregates capital from multiple investors and invests ... Read Full Answer >>
  4. Are Vanguard ETFs commission-free?

    While some Vanguard exchange-traded funds (ETFs) are available commission-free from third-party brokers, a large portion ... Read Full Answer >>
  5. Do Vanguard ETFs require a minimum investment?

    Vanguard completely waives any U.S. dollar minimum amounts to buy its exchange-traded funds (ETFs), and the minimum ETF investment ... Read Full Answer >>
  6. Can mutual fund expense ratios be negative?

    Mutual fund expense ratios cannot be negative. An expense ratio is the sum total of all fees charged by an asset management ... Read Full Answer >>
COMPANIES IN THIS ARTICLE
Trading Center