Two Harbors Investment Corp. TWO shares lost 10.9% in a month compared with the industry’s decline of 2.8%. The stock also underperformed its peers AGNC Investment AGNC and Annaly Capital Management NLY.
Price Performance
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TWO is a Real Estate Investment Trust (REIT) that focuses on investing in, financing, and managing residential mortgage-backed securities (RMBS) and mortgage loans. The company offers favorable long-term stockholder returns with a huge dividend yield, which may compel many investors to buy the stock.
Given the recent dip in its share price and a lucrative dividend yield, is TWO stock worth investing in now? To answer this, it is essential to delve into the details and evaluate various factors at play.
Two Harbors to Benefit From Rate Cuts
TWO’s financials have been adversely impacted by high interest rates. Higher rates led to a surge in TWO’s borrowing costs, which resulted in a net interest loss in the nine months ended Sept. 30, 2024. The negative return and falling profitability raised concerns about the company’s capacity to sustain its high-yielding payment.
Due to spread risk, high rates also affected the book value of TWO's investments. In the first nine months of 2024, the company’s book value per share declined to $14.93 from $15.06 during the same months of 2023.
This month, the Federal Reserve announced this year’s second interest rate cut after lowering the rates by 50 basis points (bps) in September. This time, interest rates were cut by 25 bps, bringing down the federal funds rate to 4.5-4.75%.
As the central bank lowered the rates, long-term bond yields declined, resulting in a decline in mortgage rates. Per a Freddie Mac report, the average rate on a 30-year fixed-rate mortgage dropped to 6.78% as of Nov. 14, 2024, from 6.79% a week ago and 7.44% a year ago.
Housing affordability challenges are expected to decline with lower mortgage rates. Demand is set to increase in the coming days, with rates trending relatively lower and balanced supply/affordability playing out in the mortgage market. With this turnaround, mortgage originations will likely witness a positive trend. This will reduce operational and financial challenges for mREITs like Two Harbors and increase the gain on sale margin and investment activities.
More interest rate cuts are likely in 2025, which should help boost TWO’s net interest spread and the book value of its portfolio. This will provide the company with a much-needed boost.
TWO’s Attractive Dividend Yield
The publicly traded mREIT offers a lucrative dividend yield.
Income-seeking investors have a large appetite for REIT stocks, as U.S. law requires REITs to distribute 90% of their annual taxable income as dividends.
TWO’s current dividend yield is 15.50%. This is impressive compared with the industry’s average of 10.13% and attracts investors as it represents a steady income stream.
The company is not the only dividend-paying stock among Zacks Industry – REIT and Equity Trust. Stocks like NLY and AGNC also provide investors with solid dividend options.
NLY has an annual dividend yield of 12.9% and AGNC has a dividend yield of 14.4%.
TWO’s Portfolio to Generate Long-Term Return
Two Harbors has established an investment portfolio primarily composed of RMBS with mortgage servicing rights (MSR) at its core. This portfolio has less exposure to changes in mortgage spreads than portfolios without MSR while maintaining the benefits of spread tightening and declining volatility. As of Sept. 30, 2024, the company’s total portfolio had 74.7% exposure to Agency RMBS.
High-quality investment returns are the company's primary emphasis, and its combined approach aims to maximize value extraction from MSR assets for the benefit of shareholders. The company is also enhancing its investment portfolio with more revenue and hedging options.
Is Two Harbors Stock Worth Betting On?
With the falling interest rate, Two Harbors’ earnings pressure should be alleviated as funding costs come down, allowing the company to increase its dividend payout. That could be a strong tailwind for the company in the upcoming period.
Earnings Estimate
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Find the latest earnings estimates and surprises on Zacks Earnings Calendar.
From a valuation point of view, the TWO stock appears inexpensive relative to the industry. The company is currently trading at the 12-month trailing price-to-book (P/B) ratio of 0.77, below the industry’s 0.86. The stock is also trading below NLY’s P/B ratio of 1.01 and AGNC’s 0.94.
Price-to-Book
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However, volatility in the mortgage market, unfavorable changes in the yield curve and deterioration of the generic financial conditions might affect TWO’s performance. The company also has a track of lowering dividends during stressful times. Its payout has declined 13.33% in the past five years.
Also, the stock is currently trading below its 50-day moving average, indicating bearish sentiments among investors.
50-Day Moving Average
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Hence, investors should refrain from rushing to buy Two Harbors stock right now. Instead of banking on its lucrative dividend yield, they should analyze the interest rate changes and the mortgage market before adding the stock to their portfolios.
TWO currently carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
