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Of all the mortgage REITs we cover, Rithm Capital Corp. (RITM) is one of the few that has preferred shares in our buy range. We regularly tell investors not to buy the common stock of mortgage REITs if they are conservative buy-and-hold investors. For buy-and-hold investors, we cover many of the preferred shares and baby bonds in the sector. We’ve had great success in the sector trading common stocks based on where they trade relative to book value and peers. Today, we will be going over one that has a normal floating rate.
Rithm Capital Corp. 7.125 SR B PFD (RITM.PR.B) is currently in our buy range:
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When we believe the sector is slightly overvaluing preferred shares, we are still willing to trade in shares that are within our hold range. Given current valuations, it’s nice to see a preferred share that dipped into our buy range. RITM-B is currently trading under the call value of $25 after accounting for dividend accrual. Further, the preferred share currently has a very attractive stripped yield at 9.78%. It’s important to use the stripped yield instead of the current yield because investors should be taking dividend accrual into account.
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There is currently $0.26 of dividend accrual. Investors get the full dividend amount when shares go ex-dividend regardless of when they purchased shares within that dividend period. After stripping away the dividend accrual, the stripped price is about $24.75. Relative to other preferred shares in the sector, it’s rare to see a preferred share that is trading below $25 (stripped price) and has such a high dividend yield. There are some others, but generally speaking they carry materially more risk.
Rithm Capital could call shares. It wouldn’t be their best option, but they could call shares and investors would be rewarded an annualized yield-to-call of 18%. The company can call shares at $25, but they can also go purchase shares off the market. We do believe RITM is likely to call a preferred share, but it’s not RITM-B. Rithm Capital Corp. 7% RT REST PFD D (RITM.PR.D) will have its call protection end in November. The spread for the D series is materially higher than the B series.
We covered RITM-D recently on Seeking Alpha for anyone who is interested. In that article we explained what fixed-to-reset meant. Shares reset every 5 years to the 5-year Treasury rate. The spread on RITM-D will be 6.223%. That’s materially higher than the 5.64% spread on RITM-B.
Because these shares come with a risk rating of 2.5, they aren’t a great fit for investors with a very low risk tolerance. That being said, RITM-B is still a decent option for investors with a low risk tolerance. Further, it’s also a reasonable fit for buy-and-hold investors. There are no fundamental concerns with these shares. If investors are seeking the least amount of risk in preferred shares, then they would need to look to Annaly Capital Management, Inc. (NLY) preferred shares. However, recently, NLY preferred shares have not been attractively valued in our view. If investors are willing to take on a bit more risk, then they don’t have to worry about call risk with a positive yield-to-call of 18% and a preferred share that is trading over 140 basis points higher than the current NLY preferred shares.
RITM-B stands as one of the few mortgage REIT preferred shares currently trading in our buy range. While we do not view the common stock as a great fit for buy-and-hold-investors or conservative investors, the preferred shares are a different story. RITM-B offers an excellent stripped yield while also trading below call value after accounting for dividend accrual. Further, investors have little reason to fear a call since the annualized yield-to-call is approximately 18%. Investors are able to lock in a yield that is very attractive relative to alternatives in the sector.
Although RITM-B carries a bit more risk than the preferred shares issued by Annaly Capital Management, investors are compensated for that additional risk with a materially higher yield. We believe that RITM is significantly more likely to call RITM-D before they would think about calling RITM-B. For investors seeking attractive income within the mortgage REIT sector, RITM-B is a solid option for buy-and-hold investors, traders who want to play on differences in relative value, and income-focused investors.
At the time of analysis, RITM-B was trading at $25.01.
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