Chimera Accounting Review, A Lesson For Other Mortgage REITs (CIM, NLY, AGNC, HTS, MORT)

Chimera Investment Corporation (NYSE: CIM) is the mortgage REIT which we used to dub “the vulture mortgage REIT” because of its targets in lower-rated mortgage-backed securities. Usually a delay in a quarterly filing is not a good thing, but today that is not the case as the company clarified that the accounting review “will not affect the Company’s previously announced GAAP or economic book values, actual cash flows, dividends and taxable income for any period.”  The company also noted that the quarterly filing will come “as soon as practicable.”

Without trying to draw too much in cause and effect, this could have an impact on most of the mortgage REITs if this develops as it is being accepted today.  Specifically, this may bring a similar interest in shares of Annaly Capital Management, Inc. (NYSE: NLY), American Capital Agency Corp. (NASDAQ: AGNC), and Hatteras Financial Corp (NYSE: HTS). We would also look for the sector to impact the Market Vectors Mortgage REIT Income ETF (NYSE: MORT).

It was on November 10 that Chimera disclosed that the review by its outside independent accounting firm was with an analysis of the treatment under GAAP of “other-than-temporary impairments” related to investments in securities rated less than AA, non-rated non-Agency securities and other subordinate securities.

Chimera noted that it has not completed its analysis, but it did specify that it expects only immaterial adjustments to its historical financial statements in prior comparable periods.  Also noted was that the effect will be a non-cash change in the GAAP accounting results and this change will not affect previously stated GAAP or “economic book values, actual cash flows, dividends and taxable income for any period.”

Another note was that the second quarter GAAP book value of $3.35 per share and economic book value of $3.08 per share will not change due to this action.  As of September 30, Chimera’s GAAP book value was $3.27 per share and the economic book value was $3.01 per share.  Its taxable income for the third quarter was $0.13 per share and the analysis is said to not have an impact on prior or future dividend distributions.

Chimera shares are up 7.8% at $2.76 and the last $0.13 dividend would generate a yield of nearly 19%, but mortgage REIT yields can fluctuate wildly as taxable income and distributions come and go. The fairly new Market Vectors Mortgage REIT Income ETF (NYSE: MORT) is trading up only 0.3% at $22.72 on very thin volume.  Chimera is the third largest weighting of that ETF at 6.91%, but that falls a distant third with American Capital Agency Corp. (NASDAQ: AGNC) at 13.17% and with Annaly Capital Management Inc. (NYSE: NLY) having nearly a 19.7% weighting of the entire ETF.

Annaly Capital Management, Inc. (NYSE: NLY) is often tied to Chimera because of its past and because of management teams and its shares are actually down 0.5% at $16.23. American Capital Agency Corp. (NASDAQ: AGNC) is also down 0.5% at $27.85 and Hatteras Financial Corp (NYSE: HTS) is down 1% at $25.61.  All sport double-digit implied dividend yields if the payouts remain static.

This review brought on a rating update on Chimera by Credit Suisse with a reiterated “Outperform” rating and a $3.50 price target objective.  Credit Suisse went on to note that Chimera trades at a 15% discount to book value and that its yield before the pop was 20.4%. The end result is that this would begin to ease investor concerns as shares had fallen from $2.80 down to almost $2.50 in recent days before the recovery.

Usually investors tend to run for cover when they see accounting changes.  So far, that is not the case with Chimera as investors are taking the company at face value.  If everything represented is as-is, then Chimera is trading under its implied book values and that may be cushion enough for investors.  Stay tuned.

JON C. OGG