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Analyst Blog

On Jan 16, we upgraded our long-term recommendation on American Capital Agency Corp. to Neutral from Underperform. The decision is based on the concerted efforts taken by the company to protect its book value amid the current rate environment.

Why the Upgrade?

Amid volatility in both interest rates and mortgage spreads environment, American Capital Agency’s book value continued to decline. To counter the challenges, the company repositioned the portfolio and shifted to shorter maturity securities, controlled leverage, and maintained relatively high hedge ratios in the recent quarters. This is expected to cushion book value in the current rate environment.

The company reported disappointing third-quarter 2013 results with its net spread income per share significantly lagging the Zacks Consensus Estimate due to the interest rates and mortgage spreads fluctuations. Moreover, results compared unfavorably with the prior-quarter figure.

The company’s book value continued to decline during the third quarter. Furthermore, in recent times the company declared a dividend of 65 cents per share for fourth-quarter 2013, reflecting nearly a 19% cut from the prior quarter.

However, American Capital Agency Corp. continued to repurchase its outstanding shares in the fourth quarter. In particular, the company bought back approximately 28.2 million shares of its common stock, representing 7% of its outstanding shares as of Sep 30, 2013, for around $586 million through open market purchases. With this, around 43 million shares have been bought back for approximately $934 million, including expenses, since the beginning of the buyback program in the fourth quarter of 2012.

Going forward, we believe that the initiatives to counter the challenges would poise the company well for recovery in the current rate environment. However, the steps taken by the company to protect book value are also anticipated to lower its earnings power to some extent.

Over the past 7 days, the Zacks Consensus Estimate for 2013 remained unchanged but for 2014, it moved up by a notch to $2.54. The stock currently has a Zacks Rank #3 (Hold).

Other Stocks to Consider

Investors interested in the real estate industry may also consider stocks like Apollo Commercial Real Estate Finance, Inc. , Blackstone Mortgage Trust, Inc. , Five Oaks Investment Corp. . All these stocks carry a Zacks Rank #2 (Buy).

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